Understanding the stock market

Date posted: September 22, 2011

Stock market investors have had a wild ride in recent weeks, with the Dow Jones Industrial Average rising or falling by more than 400 points on some days. N.C. State University provides his perspective as to why this is occurring.

“Well, there’ve been several economic worries in the world recently … about growth, about the consumers, about banking and debt. And the thing about the stock market to realize is that the stock market is a very efficient processor of information.

“So, if there’s information out there, if there’s knowledge out there that everyone realizes, the stock market is already going to take that into account. So on any given day, the only reason the stock market is going to react is if there’s new information that’s coming — new information that the market did not expect. And we’ve had a lot of that recently — both good and bad.

“The other thing to realize about the stock market is, because it’s a forward looking market and because businesses are going to be affected and impacted by what happens down the road, what looks like a small change can actually result in a big change in the stock market. For example, if the expectations for … growth (miss) forecasts by one 10th of a percentage point, people might think, ‘Well, that’s not going to cause a big deal.’ When you factor that one 10th in every year for several years, it can have a big impact on an individual stock and on the stock market.

“So, realizing those two things — that the market is going to react only to new information; that small changes can result in big movements in the stock market — maybe, maybe that’ll help people understand movements in the stock market a little better.”

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