Contents
System Specifications & Working
System Specifications:
THE SHARE MARKET AS A SYSTEM:
We look at the share market as a system which determines the price of the share of a company as a function of time. The share market, being a market, has as its determinants, the market forces of supply and demand. Thus, the input to the system are the “signals” of supply and demand as a function of time, giving the price of the share as its output.We only consider the price and the demand at the end of the day, not taking into account the 'intraday't rading which is usually based on speculation.Working:
Since, we are considering the secondary market, as it is more dynamic and hence interesting, we treat “supply” as constant. If we thought that changes in the supply of stocks are the main cause of stock market rises and declines then, according to this rule, when a company issues new stock we would expect the price of stock to decline. If stock prices are largely determined by the supply of stocks and the market declines prior to an economic decline, we should see a flood of new stock issues before a recession. This does not happen in practice, as new stock issues tend to occur as the economy enters a growth period. This is because the money made from a stock issue is used to increase the output of the company, which causes economic growth to rise. Hence we focus our attention on the forces influencing demand.
Theory behind the working
FORCES INFLUENCING DEMAND: Demand can again be thought of to be determined by a system :1. Company performance : The quarterly results of a company have a great bearing on the price of a stock, also the dividend paid by a company decides the valuation of its stock. As the revenues earned by the compay increase, the dividend paid increases; buyers increase.
2. Information about status of the company: Information that helps a company's reputation or earnings increases demand. This may range from information like technical advances, new research projects or collabrations taken up by the company, or information about new government policies, or even things such as good weather.
3. The economy : If investors believe a recession is coming, they will sell the stock, driving the price of the stock down. If investors believe a boom is coming, they will increase their estimates of the inherent value because future earnings should be higher than they previously expected. So investors buy the stock. This leads the price of the stock to rise.
4. Special events: Wars / strikes /great depressions/ political instability tend to drive buyers away from the market.
5. Speculation: Past experiences, intelligence, statistical analysis all leads to people trying to anticipate the market's moves, which affect their actions and hence the demand.
Before we conceptualize the system, we make a few important assumptions:
1. No animal behaviour: everyone behaves according to rational thoughts and ideas based on careful observation of the present and the past state of the market. There are no wild guesses.
2. Honesty: everyone adheres to the norms of the market. No one tries to manipulate the market by using political influences, scams, etc. 3. Mood of the market is not taken into account.
4. The information is assumed to be freely available and everyone is informed. There are no secrets.
