Question

For each stock in the stock market, the number of shares sold daily equals the number of shares purchased. That is, the quantity of each firm’s shares demanded equals the quantity supplied. Why then do the prices of stock shares change?

Short answer

The prices of the stock shares change due to changes in the expectation of the investors (buyers of stock).

Step-by-step solution

The effect of a change in consumer’s expectation

A change in consumers’ expectations can alter the present demand of the consumers. This will affect the demand curve. A higher price in the future means greater income needed to be spent in the future, and thus, the consumers increase their current demand. This shifts the demand curve forward. A fall in the price in the future will decrease the demand in the current period and will shift the demand curve backward.

For example, if a consumer expects that the price of a phone will increase from $5,000 to $10,000 in the future, the consumer will increase his/her demand for a phone today to avoid a higher price in the future.

 Effect of expectation on stock prices

The effect of consumer expectation can be explained using the diagram given below:

If the investors believe that the stock price will decrease in the future based on some information, they will decrease their demand for stock at present, and the demand curve will shift backward. The shift in the demand curve from$D_{1}to{D}_2$ shows this effect on stock prices. The new equilibrium is achieved at a lower stock price $P_2$and lower equilibrium quantity $Q_2$.

If investors believe that a rise in stock prices will occur in the future, the demand curve will shift from $D_{1}to{D}_3$, thereby increasing the prices to $P_3$, and quantity demanded and supplied to $Q_3$(increased demand at present).

Thus, the prices change to adjust the demand with the supply of stocks so that, in the end, the equilibrium can be achieved where the numbers of shares sold and purchased are equal.