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November 22, 2023

Why Do Stocks Go Up . . . And Down?

As much as private investors (as well as some Wall Streeters) think that there’s a mystical force that determines stock prices, the reality is anything but.  What drives stock prices, and the overall stock market, is profitability.  When companies make more money, their stock prices rise over time. As the country’s economy grows, the stock market rises.

Patterns of growth, however, are anything but linear.  Major events, both positive and negative, regularly disrupt the long-term path of progress.  Wars, bank failures, and periods of business weakness are just a few of the issues that alarm investors and cause them to suffer the most serious concern: uncertainty. 

When the view of economic prospects ahead becomes cloudy, investors start by becoming fearful.  Then they hit the panic button.  Invariably, these significant shifts in psychology push stock prices lower.  That, in turn, leads more astute investors to take advantage of the pullbacks, which for shares of healthy companies will ensure broader gains for them as things get back to normal.

Healthy companies such as Procter & Gamble, Automatic Data Processing, and UnitedHealth Group are examples of consistent annual progress over extended periods.  Indeed, for the latest five years, each of these companies managed to improve their net income, so it should come as no surprise that their shares either matched or bettered the results of the overall market (S&P 500).


As you can see from the patterns of this chart, the path of least resistance was up, marred only by the drop at the onset of the recent pandemic.

Consistent progress over time is the exception, not the rule.  Few companies have been capable of moving ahead without even the briefest of interruptions.

The flip side of consistency is cyclicality, a prime example of which is companies related to the construction industry.  A look at the price charts of those stocks will illustrate the considerable impact of the ongoing ups and downs that comes with that territory.

It’s essential to underscore the importance of continuing progress from regular company operations.  Investors must ignore nonrecurring items (e.g., big gains from asset sales), which rarely have any bearing on share prices unless the proceeds from same are reinvested to accelerate organic growth.

N. Russell Wayne, CFP

Sound Asset Management Inc.

Weston, CT  06883

203-895-8877

www.soundasset.blogspot.com 

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