I get the thing with shares, the point and the works and why a stock is worth more one day, and less the next day. Demand, the market, buying and selling and so forth.
What I don’t understand, is how it gets its precise value, say €9,85.
Say there’s a big demand, and the stock rises, to say €12. Quite understandable. But hey! — Why not 11, or 12.4? That is what I do not understand.
Is it the Decider, a formula, or what?
Ok, so hopefully: Stocking for dummies.
There’s no simple formula: it’s just supply versus demand. People buying and selling shares base their valuations on a variety of factors, including the intrinsic value of the shares (current dividends, assets owned by the company) and what they expect others to pay for those shares in the future. A similar process works for exchange rates (why is the Euro worth a particular number of US dollars today?) and for commodities (why is a barrel of oil worth so much today?).
Think of it as being like an auction. Who wants to buy United Widgets today? What will you pay? 12.5? 12.3? 12.1? Finally there’s a buyer, for 12.05, and that’s the price. Ten minutes later maybe some good news comes in and another buyer is willing to pay 12.10 and the price goes up.
The quote you see is the last trade. It’s simply what somebody paid for it. There are Market makers (NASDAQ) or Specialists (NYSE) who facilitate getting buyers and sellers together, but in the end, it’s the price it is because somebody bought it, not because there’s any deterministic algorithm setting the price.
Thank you. Being in the stocking for dummies thread, I need clarifications though.
The value of a stock, is the price the latest buyer was willing to pay?
This raises two questions: You can’t buy stocks for any other price than €0.1 above the latet offer?
Second: The value of a stock falls with the latest accepted offer? What if you don’t accept generous offers below the listed value? Will the stock keep its value?
The value is both the price the latest buyer was willing to pay and what the latest seller was willing to accept.
You can offer to buy or sell price for any amount above or below the current price. However, it makes little sense to go way over the current price: the stock is the same no matter what you pay for it. If you want to pay 100 over the current price, that’s your perogative, but you’d be a fool to do it. Similarly, if you want to sell the stock for half the current price, you could, but why?
As for our last question, there are ways of saying “I’ll accept $1 under the current price, but no less.” If there is no transaction, the stock price remains the same.
[QUOTE=Wakinyan]
Thank you. Being in the stocking for dummies thread, I need clarifications though.
The value of a stock, is the price the latest buyer was willing to pay?
This raises two questions: You can’t buy stocks for any other price than €0.1 above the latet offer?
Second: The value of a stock falls with the latest accepted offer? What if you don’t accept generous offers below the listed value? Will the stock keep its value?
[/QUOTE]
No. You may make several types of trades. You may in fact, offer to buy or sell your shares at or past a specific price (look up “stop” and “limit” orders). You may also make a “market order”, in which you buy or sell the shares at the current market price. Some information on the types of trades you may make:
http://beginnersinvest.about.com/od/investing101/ss/stocktrading.htm
I don’t know what you mean by “keep its value”. The shares are worth what somebody is willing to buy and sell them for. The price you paid may be above or below that at any given time. You may TRY to sell them at any price you wish. If there’s no takers, you keep them for now.
[QUOTE=Wakinyan]
Thank you. Being in the stocking for dummies thread, I need clarifications though.
The value of a stock, is the price the latest buyer was willing to pay?
This raises two questions: You can’t buy stocks for any other price than €0.1 above the latet offer?
Second: The value of a stock falls with the latest accepted offer? What if you don’t accept generous offers below the listed value? Will the stock keep its value?
[/QUOTE]
I don’t really understand these questions, but let’s try some examples of stock price rising and falling to demonstrate further, and giving the participants names just to keep hammering in the point that it’s all about people’s choices, not ‘the market’ as some faceless authority.
In both these examples, we’ll assume that Bill sold Alice 20 shares of Zebra Corp. at $1.45 a share, thus setting the current list value of the stock.
EXAMPLE 1:
Charlie pipes up, “Hey, I want some Zebra shares too. Bill?”
Bill: “Sorry, I’m all out, those were the last I had.”
Charlie: “Alice, wanna sell me those?”
Alice: “Maybe, but I just got them, and you’d have to raise the price a lot to make it worth my while.”
David: “I’ll sell you up to 40 shares at $1.49 each, Charlie.”
Charlie: “Hmm… okay, I don’t think I’ll get a better price than that. Too bad I was napping and didn’t try to outbid Alice when I had a chance. I’ll take 30.”
So the price rises to $1.49
EXAMPLE 2:
Bill: “Great, money in my pocket, thanks Alice. Well, I’ve got 50 more shares, anybody else want some?”
Charlie: “Not for a buck forty-five each. Charge me a dollar thirty nine and maybe we’ll have a deal.”
Bill: “Nobody else? Alice, sure you don’t want any more?”
Alice: “I’d like to, but I don’t have the money and don’t want to borrow for stock.”
Charlie: “David?” (David shakes his head.) “Alright, Bill, how many?”
Bill: “Ten at a dollar thirty-nine each.”
So the price falls to $1.39
If nobody accepts offers of below the current value, then no, the price will never fall, but people will notice low trading activity in that stock. Generally, SOMEONE will decide to off-load it, even if they have to take a loss to do that. (But not always.)
Well done. Thanks chrisk, yabob, and the rest of you.
Now, multiply Bill, Charlie, Alice and David by a large factor, with each individual pursuing their own agenda regarding what price they will buy or sell for, and you get the idea.
Getting them matched up with each other, and holding shares as a middleman, is where the “Market Maker” or “Specialist” comes in. A brief definition, which also touches on the “bid” and “ask” prices they maintain:
At the risk of complicating this too much, we might also mention that your individual stock trade may very well never see the exchange. Brokers have a variety of ways to fulfill your order, and for heavily traded issues, a small order from Joe Sixpack is probably filled in house from shares already held by the brokerage. Brokers like in-house fulfillment because they can profit on the spread, and customers like it (although they may not be aware of it) because their order gets filled quickly.
I think it is important to note that while at the end of the day a stock is worth whatever someone was willing to pay for it that valuation generally has a lot of math and examination behind it. Certainly there are bubbles of overvalued or undervalued stocks but generally the price reflects the actual facts of the company itself (its health, leadership, balance sheet, assessment of its future and so on).
Hey, guys, this was the “for dummies” section! - Seriously, interesting read, and thanks again.
How about when a company first goes public, Google, for example. How do they decide the initial price of the shares before any have been traded?
[QUOTE=aldiboronti]
How about when a company first goes public, Google, for example. How do they decide the initial price of the shares before any have been traded?
[/QUOTE]
That’s set by the company and the banking firms that are managing the IPO; they try to determine a good price that will sell all the stock and bring in the most money to the company.
They kill a rooster and read the entrails …
Actually, initial offering price is decided on by the underwriters. Motley Fool on the topic:
[QUOTE=Wakinyan]
Second: The value of a stock falls with the latest accepted offer? What if you don’t accept generous offers below the listed value? Will the stock keep its value?
[/QUOTE]
You must be assuming that you are the only person trying to sell the stock. Since someone else selling may take an offer below the listed value, the value falls.
However, on some exchanges there are specialists called market makers who deal with this situation.
Part of the credit crisis is that the number of people wanting to bid on mortgage based securities plummeted, so much so that the banks couldn’t value them any more. They knew there was going to be a loss, but didn’t know how much, which led to the current paralysis. So markets are vital.
I’m a stockbroker.
There are several types of trading.
On the exchange. There is a floor specialist assigned to every exchange listed stock. The specialist is required to maintain an inventory of the stock and buy or sell from his/her inventory to maintain an orderly market. They set two prices, the bid and the ask. They will buy the stock from you at the bid price and sell it to at the ask price.
Over the counter. NASDAQ is obviously the most well known. There are market makers who keep an inventory of stocks. Unlike an exchange, there can be multiple market makers. On an exchange, there is only one floor specialist.
The third market. Trading of exchange listed stocks over the counter.
The fourth market. Trading between institutions of exchange listed stocks. A bank might sell a large amount of a stock to a mutual fund company, for example.
[QUOTE=Voyager]
You must be assuming that you are the only person trying to sell the stock.
[/QUOTE]
Yep. I was thinking about stock as one particular person’s/company’s “property” which he/she/it was selling. Good point.
I seem to recall that in the case of Google’s IPO specifically, they arrived at the price by putting the shares up for auction on eBay. That was considered a controvertial move, though.
[QUOTE=Chronos]
I seem to recall that in the case of Google’s IPO specifically, they arrived at the price by putting the shares up for auction on eBay. That was considered a controvertial move, though.
[/QUOTE]
No, they used what’s called a Dutch auction. Nothing to do with eBay.