Let’s start with what exactly the “market” is. I’ve pulled this paragraph from a 2014 article I wrote.
“Investing in the market means you are participating in a network of economic transactions. The ‘market’ is not a physical facility, but rather a digital meeting place of various investments held by individuals as well as institutional investors (i.e. banks, insurance companies, corporations etc...)”
To get a better understanding of the triggers that affect market returns, I’ve provided a brief description of just a few of the many deciding factors.
This refers to a government applying an increase or decrease to interest rates that in turn can either fuel or secure an economy’s growth.
For example, when interest rates rise, it is more costly for a business or company to borrow to expand. Therefore, company profits are lowered which also lowers dividends paid to that company’s shareholders. This causes a drop in the company’s share price, triggering investors to sell their stocks.
Furthermore, higher interest rates will cause investors to shift from dividend paying stocks of a company to interest paying investments.
Inflation is the increase in prices of consumer goods and services. When consumer prices increase, it generally slows down sales and therefore lowers company profits.
And as mentioned earlier, lowered company profits means lower returns to shareholders and a decline in company stock prices. This will push investors to sell their stocks and buy elsewhere.
Deflation, the lowering of consumer prices, can also have a negative effect on the economy.
Lowered prices mean lowered company profits. This will also cause shareholders to sell their stocks and look for more secure investments such as bonds.
The Great Depression was an example of an economy suffering from extreme deflation.
Worldwide events can affect market fluctuations as well. Acts of terrorism can cause economy growth to come to a standstill, in turn making businesses suffer and stock prices fall dramatically. Any time stock prices fall, shareholders take a loss in their investment savings, creating panic and a strong urge to sell.
A new government can also trigger a chain reaction in the market. As mentioned earlier, sudden policy changes to interest rates or inflation levels will eventually affect stock prices consequently forcing the market to respond.
I’ve only just shown you the tip of the iceberg when it comes to factors affecting market levels. A few more market triggers can be changes in currency values, rising energy costs and supply versus demand in commodities such as oil for example.
As you can probably tell, there are way too many things that affect market returns. Investing in market based products means you are willing to take on some risk of losing that investment. The amount of risk is up to you. Make sure you determine if this type of approach is best for your savings goals by meeting with a trusted financial advisor.
Heather Tarnopolsky is a Sun Life Financial advisor in Greater Sudbury.