Concept #5: A Market Price
When you get a quote on a Stock price you’re receiving the “Market Price.”
A Market Price is the exact point, at that exact time, where the amount of shares to buy equals the amount of shares for sale. It’s the equilibrium of buyers and sellers at any given time. (Recall the term “equilibrium” with Concept #3: Sports Betting).
Here’s another way to look at it. The Market Price is also the point where the Expected Gains equal the Expected Losses. (Recall this from the Flipping a Coin example in Mathematical Edge)
As the Expected Gains go up due to earnings, news, or company announcements, it attracts more stock buyers, changing the equilibrium, and pushing the stock higher. Likewise, an increase in Expected Losses attracts more stock sellers, which pushes the stock lower.
As you recall in the Heads or Tails example, we only used two possible outcomes. Stocks usually don’t have just two outcomes. In fact, they have MANY different possibilities. A stock can go up $1, $2, $3 or $10, while they also have a chance to go down. BUT, by definition, a stock price is a Market Price where the Expected Gains equal the Expected Losses.
So, to calculate the Expected Gains of a stock, we can sum all the % probabilities of being at every possible stock above the current stock price multiplied by any gain at that price. This equals the Expected Losses, which is the sum of all the % probabilities of stock below the current stock price multiplied by the losses at that stock price.
That’s a lot of calculations!
In reality, finding all those probabilities for the Expected Gains and Losses is very difficult to do. We won’t be doing that, but it’s important to conceptually understand what a Market Price is trying to tell you!
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