When a stock price spikes up hard, the first question is usually, “Why is it rising?”. The answer may not be as simple as you think. There are a number of factors that cause stocks to go up or drop down. While it’s tempting to assign one answer, be aware there are many moving parts driving the move. Understanding this can help prepare you to make better decisions on the way up and on the way down.
The Basics of Stock Price Fluctuation
The basic law of supply and demand is how all markets function (IE: super markets, stock markets, collectibles markets). In a nutshell, stock prices rise when buying demand is greater than selling supply. Stock prices fall when selling supply is greater than buying demand. The mechanics are simple, the bigger question is what causes buying demand to rise or fall? What impacts the buyers? How to gauge the supply and demand levels?
Factors That Can Make Stock Prices Go Up
Here are the list of factors that can cause buying demand to surge to overwhelm selling supply, which results in stock prices rising. Every stock’s narrative impacts investor sentiment which then impacts the price. Make sure to analyze how these factors improve the narrative to bolster positive sentiment and subsequently driving the stock price up.
Positive Earnings Reports
The quarterly earnings release (Form 10-Q) is a company’s report card revealing how the business performed for the previous three-month period. This is the most consistent material event that can move push stocks higher. Beating the consensus analyst estimates for earnings-per-share (EPS) and revenues can boost stock prices, but raising forward guidance is the lasting component that can extend the uptrend.
Positive Company News
Sharp upward stock price moves are often linked to positive company news. The type of news can impact the narrative. News that presents a lasting material impact usually pertains to an improvement in fundamentals like large contracts/sales, new product/service introductions/rollouts. Legal wins, FDA approvals, tender offers, and stock splits tend to result in immediate spikes.
Analyst Upgrades and Raise Price Targets
When a large Wall Street firm upgrades a stock and raises its price target, the shares usually gap higher. The follow through on the gap relies on how big and reputable the firm is. Analyst upgrades usually result in the brokerage firm recommending shares to their clients which is the initial source of buying demand. Buying tends to generate more buying either from short-sellers covering or buyers coming in off the fence. Be aware of price support and resistance levels to better gauge how overdone the momentum may be. As a rule of thumb, waiting up to three days after an upgrade is a good idea to see if a higher price support can hold.
Sector/Industry Strength
The U.S stock markets are divided into sectors and industries. Money rotates between certain sectors on a regular basis. The program trading and algorithms can lift stock prices based on money flowing into any particular sector at any particular time. For example, if a sector leader reports very strong earnings, the buying momentum can spread throughout the whole sector lifting competitors and smaller companies in the process. This is why it’s prudent to be aware of the sector and industry leaders especially during earnings season.
Broad Market Strength
Very much in line with the sector strength, when the broader indexes like the S&P 500 or the Nasdaq 100 are rising quickly, it can lift stocks within the indexes and their peers. The famous quote, “A rising tide lifts all boats.”, really applies in the financial markets. For this reason, it’s a good idea to monitor the SPY and/or QQQ.
Hype/Trends Themes
Stock markets often latch onto specific “hot” trends often rooted in hype resulting in the cream and the junk rising. It’s important to be able to distinguish between the two. For example, electric vehicles (EVs) have been a very strong theme as the rise in legitimate EV companies also results in junk EV companies that have yet to produce any cars that spike as well.
Global Events
Macro and geopolitical events can impact the market indexes, which can impact stock prices. These events are usually covered not only on financial news channels but also mainstream and local news. Global pandemics like COVID-19, presidential elections, wars, sovereign debt crisis’ and economic crises’ make headlines and that impacts macro narratives.
Economic News
Specific economic news released by official agencies like unemployment claims, jobs reports, Consumer Price Index and the Chicago PMI impact the S&P 500 futures which move the benchmark indexes. The U.S. Federal Open Market Committee (FOMC) rate decisions and subsequent press conferences can whipsaw stock markets up and down, so it’s best to be aware of when the meetings are held.
Pump and Dump Promotions
These unscrupulous “marketing” and “investor awareness” programs are used on penny stocks and small-caps to spike stock prices temporarily. Be careful not to fall for these and get stuck. Volume can rise from a few thousand shares a day to millions for a few days as the stock spikes hard, usually falling even more sharply after the promotion is completed. Staying clear of Pink Sheets and penny stocks is prudent. It’s also prudent to check the average trading volume and stay away from stocks that trade under one million shares a day.
Don’t Chase Stocks
The markets are a dynamic and perpetual ocean of price action. Knowing what factors make a stock price rise can help you justify taking a position, passing, or waiting out the pullback. It’s crucial not to chase stocks impulsively. Having a trading methodology in place with chart indicators that can visualize when the momentum is overbought can help you make better decisions on your trades. While buying low and selling high is the ideal model for trading, it takes patience and discipline to execute a valid strategy. Always have a game plan that includes identifying the trend, support and resistance levels, patterns, risk and reward, size allocations, and stop-loss limits ahead of time. Preparation is what separates the speculators from the gamblers. Seasoned traders can buy high and sell higher as long as they have a trading plan and strategy in place.
