Stock prices are set by what people think stocks are worth. Buying a stock is a bet that it will become more valuable in the future (and/or pay dividends). Even with the rise of algorithmic trading, those algorithms are betting the stocks are will rise in value. In theory the cost should be related to the fundamentals of the stock like the company’s revenue, but in practice they are also set by investor’s opinions about the stock’s future price.
So what causes stocks to go down is people thinking that stocks will go down, and selling before they lose any more money.
In the case of the AI stock bubble, it’s hard to know what will cause investors to say “this stock is likely to drop on value, or at least not grow as quickly as other investments I could make.” The fact that most AI companies are burning cash and not getting much revenue out of it hasn’t dampened the excitement yet, so I guess investors still believe there’s a way forward that will result in more revenue. Or at least they believe the hype cycle isn’t coming to an end so they’re holding on while the prices go up and hope to sell before their holdings lose too much value. It won’t pop until something deflates the expectations of enough investors to start a sell-off. What’s that going to be? Who knows. It might just be a herd mentality thing where a few people begin to sell and more people follow suit.
What if there isn’t true price discovery anymore because market makers, hedge funds, and the GSIBs that bankroll all of them with their customers 401k money, have colluded to artificially manipulate stock prices using algorithmic trading, PFOF etc?
I agree, I’m sure those kind of manipulations happen all the time. Some are intentionally inflating the price and sometimes investors/fund managers have just drank the Kool-aid and are investing in ways that don’t make sense given the fundamentals. So yeah, stock prices can become completely unmoored from fundamentals because these days the money is in buying and selling, not dividends. In fact, I’d guess that stock prices are unmoored from fundamentals more often than not — when they’re high they’re too high and when they’re low they’re too low due to investor sentiment. But I remain somewhat confident that over the very long term (meaning decades) stock prices have some correlation to fundamentals, so they can’t remain artificially inflated forever. Sooner or later someone will make a killing popping the bubble.
Stock prices are set by what people think stocks are worth. Buying a stock is a bet that it will become more valuable in the future (and/or pay dividends). Even with the rise of algorithmic trading, those algorithms are betting the stocks are will rise in value. In theory the cost should be related to the fundamentals of the stock like the company’s revenue, but in practice they are also set by investor’s opinions about the stock’s future price.
So what causes stocks to go down is people thinking that stocks will go down, and selling before they lose any more money.
In the case of the AI stock bubble, it’s hard to know what will cause investors to say “this stock is likely to drop on value, or at least not grow as quickly as other investments I could make.” The fact that most AI companies are burning cash and not getting much revenue out of it hasn’t dampened the excitement yet, so I guess investors still believe there’s a way forward that will result in more revenue. Or at least they believe the hype cycle isn’t coming to an end so they’re holding on while the prices go up and hope to sell before their holdings lose too much value. It won’t pop until something deflates the expectations of enough investors to start a sell-off. What’s that going to be? Who knows. It might just be a herd mentality thing where a few people begin to sell and more people follow suit.
What if there isn’t true price discovery anymore because market makers, hedge funds, and the GSIBs that bankroll all of them with their customers 401k money, have colluded to artificially manipulate stock prices using algorithmic trading, PFOF etc?
I agree, I’m sure those kind of manipulations happen all the time. Some are intentionally inflating the price and sometimes investors/fund managers have just drank the Kool-aid and are investing in ways that don’t make sense given the fundamentals. So yeah, stock prices can become completely unmoored from fundamentals because these days the money is in buying and selling, not dividends. In fact, I’d guess that stock prices are unmoored from fundamentals more often than not — when they’re high they’re too high and when they’re low they’re too low due to investor sentiment. But I remain somewhat confident that over the very long term (meaning decades) stock prices have some correlation to fundamentals, so they can’t remain artificially inflated forever. Sooner or later someone will make a killing popping the bubble.