There is a saying in the stock market – “everything is priced-in”. In this article, we will discuss what ‘priced in’ actually means and how it should be interpretated by investors and traders.
‘The Market has Priced-In’ means the future is already included in the current price.
On business news channels, you might hear them saying ‘factored-in’. If you hear someone saying “that news was already factored-in to the price” it simply means the news was priced-in.
Let us take a simple example.
When Prime Minister Narendra Modi declared a country-wide lockdown on March 23rd 2020, the Indian stock market had already crashed nearly 40% from its highs.
Here comes the surprising part. The day the lockdown was announced, was the day the market hit its low. And that very day marked the beginning of a major bull market.
Think about it. Businesses were closed, it seemed like there would be a recession or great economic depression – but stocks were rising. Why was this happening?
This was because the worst of Covid was priced-in on the day the lockdown was announced. After this, the market was pricing-in the future – a Covid-free future!
It is important for both investors and traders to know – in most cases, the stock market reacts ‘before’ and not ‘after’ an event takes place.
Only in case of totally unexpected events like the coronavirus pandemic – will the market panic and behave abnormally. At all other times, its behavior (ups and downs) is normal.
A company is scheduled to announce its quarterly financial results on June 30. A few days before the results, the stock begins to rise sharply.
The company announces excellent results on June 30th and immediately the price falls.
If you have been in the stock market for a few months or years, you would have noticed this very often.
Why does this happen?
This is because the ‘excellent result’ was already priced-in before the results were announced. The price was already where it should be – after including the excellent financial result.
Inexperienced investors or traders will look at the positive news and look to buy. Whereas, the big investor, who could have several sources of information – could be the one who is actually selling the shares.
This is why, understanding the market psychology and its behavior, is very important if a trader has to increase the percentage of his winning trades.
In most cases, news does not move the market. Charts and Option Chain can provide better insights into the short-term direction of a stock or the market.
Maruti Suzuki is another classic example of how the price starts to move ‘before’ the event actually takes place.
2016, 2017 and 2018 were excellent years for Maruti. In Mid-2018 the company recording all-time high sales of 1.6 lakh cars per month.
Everyone wanted to buy shares of the company. It had just touched the price of ₹ 10,000 per share. Interest in the company was at an all-time high and this was backed by excellent car sales.
However, September 2018 onwards the share price began to fall. The car sales remained good, but the shares were falling.
Why was this happening? What was the market ‘pricing-in’?
In March 2019, the company sold 1.45 lakh cars. More than the combined sales of all other car companies in India. But the share price had crashed from ₹ 9500 to ₹ 6500.
The bad news began to come in from July – August 2019 onwards, when the car sales of Maruti crashed below 1 lakh per month.
By then, the stock had already gone below 6000. More than 40% down from the all-time high.
The bad news of poor car sales in July 2019 was being ‘priced-in’ to the share price starting from September 2018 itself.
That is the stock market for you. The expected never happens. The market likes to shock and surprise.
When you look back, you will realize, in most cases the market was right. Like in the case of Maruti, the market and the chart of Maruti was saying as far back in September – October 2018 itself that the car sales will fall.
But the good sales numbers in the present would confuse market participants into believing the price correction is temporary. Only when they look back will they realize, the market was ‘pricing-in’ what would happen nearly 7-8 months into the future.
That’s exactly what the market is doing now too. The rising market in June 2021 suggests most people will be vaccinated with atleast the first dose by September 2021. And the country could put the covid-episode behind by the end of the year.
The market is rising when there is bad news all around. Don’t be surprised if we get a decent-sized market correction when good news starts coming in and everyone becomes bullish 🙂