Supply and Demand
Supply and demand affect stocks the same way they do products in any market. Yet the supply of product – shares – is almost never a consideration. Traders just trade. Public companies suppose that telling the story to more investors will create volume and drive the price up.
Our friends at IEX here explain the difference between volume and liquidity (and we described liquidity and volatility last week). The more parties between the sources of supply and demand, the more volume compounds (especially with derivatives, leverage via borrowing, Exchange Traded Funds).
But volume doesn’t create more supply of the product. This by the way is how stocks soar and lurch today.
SHOP, the big Canadian e-commerce company, saw shares plummet about 30% in a week on a share-offering. The stock then skyrocketed yesterday. Shares were trading near $1,140 to start September, fell to $850 after the news, and were near $960 yesterday.
Rational thought?
No, supply and demand. SHOP is the 7th most liquid stock in the US market (a reason why we cluster it with close cousins the FAANGs). In fact, supply is so tight in SHOP that it depends on borrowed stock.
Most times stocks with high short volume – borrowed shares – underperform the market. Shorting adds supply to the market. If demand falls, short volume weighs on price.
Short volume is at a basic level rented inventory. Traders who deal shares in fractions of seconds rent stocks to sell to others, profiting on the differences in price. At some point before the close they buy it back and return it, aiming to make more getting between buyers and sellers – see the IEX video – than they spend renting stocks and covering that borrowing.
In SHOP, the demand has been so great that even high shorting isn’t dragging the price down. They’re an outlier, and edge case (and that data clearly indicate they can afford to continue issuing stock, by the way). There’s more to be made trading SHOP every day than the cost of constantly covering borrowed shares.
Disrupt that supply chain with a stock offering and the whole SHOP market for shares shudders.
And if market capitalization is less than roughly $4 billion, it’s outside where 95% of the money plays, which is in the Russell 1000. It’s wise to know that stocks outside this band may behave differently.
I’ll use a great example to kick off the Chicago discussion tomorrow. And if you’re on hand live and we have the data, I’ll tell you your liquidity ranking.
Bottom line, supply and demand determine price. At Market Structure EDGE, we use Market Structure Sentiment™ to help you know at all times where stocks lie on the arc between Oversold (lots of supply, limited demand) to Overbought (the reverse). It’s key to beating the benchmark.