Understanding the Stock Market Corrections

Revealed – The Real Reasons behind Stock Market Corrections

Experts and analysts all agree that the stock market is an extremely uncertain place. Small retail investors would always agree to this view. The only certainty about this market is that, the prices of stocks would roar up, and then come crashing down, only to go northbound again. Almost always when the stock prices go up, the experts would say that a correction is imminent. And sure enough, almost always the market begins to drop.

So what are these corrections? Why do corrections happen in the stock market?

Understanding the Stock Market Corrections

It is in the nature of stocks to go up and down. The truth is, the prices of stocks would always go up and down, as long as traders buy and sell.

Those who invest in the market all do so with the expectation of profits. So they try to buy at low prices and sell at higher prices to book profits. If there is an inherent demand in a particular stock, a lot of investors would buy it, and this would spiral its prices. This demand could be a result of good performance of the company, changes in the economy, market perceptions, and even other reasons like war, flood and terrorism.

Investors would however begin to sell once they start to believe that the stock can’t go up anymore. As soon as the market begins to feel the selling pressure, the stock’s price would start to slide, and it eventually slides quite a bit. This is the correction.

Of course the correction in the price of one or two stocks won’t impact the market greatly. Sometimes however, there is a bigger correction where the value of the index comes sliding down. This is a more serious event because it affects the prices of most stocks.

Reasons for Larger Stock Market Corrections

Here are some reasons why this can happen.

1. Poor industrial growth – Industrial figures are released regularly and if the report shows a poor growth, then this will definitely impact the stock market more seriously. Poor industrial growth can mean a lot of things. It can mean lack of demand, and thus poor revenues for business. If the industrial outlook is not positive, businesses will cut down on hiring, and if people don’t have jobs, the demand can’t pick up. This will again lead to poor industrial growth.

2. Inflation – Inflation figures are also released periodically. High inflation is not good for the market because consumers would need to spend more on the basic items. Industrial demand goes down because consumers now have less money to spend. Business revenues will thus fall. Plus, due to the inflation, businesses need to spend more on procurements as well, and this increases the production cost. Businesses can become uncompetitive in inflation because of rising expenses and lower revenues. The stock market will naturally fall in inflation.

3. Rate hikes – The government often steps in to control the economy. It can reduce rates to promote industrial activity. But in inflation, the rates are hiked to squeeze out the money from the economy. In inflation, more money is chasing fewer goods, which makes the price goes up. This situation can be corrected by squeezing the money out. But this of course means lower revenues for business. So fears of an imminent rate hike, or the actual hike can bring about a correction in the stock market.