Markets rise and fall as people buy and sell things – not for unforeseen and random reasons. Understanding how markets work will help you make smart decisions, and keep you from following the herd into a bad investment.
The movements of financial markets may seem quite random to an outsider, but they’re really not.
Financial markets go up and down as people buy and sell things. They move because there is a difference between sellers wanting to sell something and buyers wanting to buy it.
When everyone wants to buy stocks in a hot market, then prices rise, when everyone decides to sell then prices fall until buyers emerge.
In illiquid markets the difference between buyers’ and sellers’ opinions of value grows – something called the “bid-ask spread.”
When the bid evaporates, sellers have to “hit the bid” to exit their position and the bid is usually well down from the previous trade. The opposite happens when price spike up. Aggressive buyers “lift the offering” and prices rise sharply as sellers hold out for higher prices.
But just like with any other human activity, it’s really hard to predict what people will do.
And when you try, you’re likely to get it wrong.
That’s why the best investors focus on a long-term strategy of picking the right investments for their portfolios.
That way, they stop worrying about whether things will go up and down, because they know a good investment will maintain its value regardless of what’s going on around it.
Read the full article here.