Most investor misinformation and confusion surround some of the most fundamental concepts about the stock market. What is the stock market? Who sets the prices? Why has it been seen as the greatest wealth-building tool in the history of the world? Today, Evan addresses these topics by explaining how the stock market is a network of markets that are all driven by individual companies trying to make profitable businesses and explains some of the ins and outs of how it works and how it can be studied. Later in the episode, Evan acknowledges some skepticism forming around economic data after President Trump fired Erika McEntarfer, the Commissioner of the Bureau of Labor Statistics.
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Evan Barnard: Welcome to “The Investor Coaching Show.” I’m Evan Barnard, filling in for Paul today. He’s got some exciting stuff going on later this evening and needed to check out a little bit early. We’re going to spend the next couple of hours together.
In the second hour, we’re going to spend some time on estate planning and get into that in a little bit more detail. You might want to have your pad of paper handy. Unless you’re driving, in which case, just record it or check out the podcast later. But I wanted to start this hour with really going back to the basics.
When I say back to the basics, I am really meaning back to the basics. So some of you all listening to this, you may be scratching your head. “Doesn’t everybody know this? Why are we talking about this on the show?” and some things like that.
But there’s a wider range of investors that we run across, and we have conversations with people that just really don’t have much foundation at all with that. Or they’ve been investing on autopilot.
You might’ve been in a 401(k). You might’ve inherited an IRA, and now you’re investing. You may have started your IRA at a first job. You might’ve been investing for 20 years, and some of this may sound a little bit new.
But I think it’s oftentimes very good to go back to the basics. Every segment, between the new segments all through the week, you hear, “Oh, the Dow Jones is up 400 points,” or, “It’s down 800 points,” or, “The S&P 500 move this amount of points. It’s up half a percent, and so forth.”
Oftentimes, people begin to think of the market as just this entity that is setting prices, that there is somebody saying, “Okay, the Dow is going to be down one-half percent for whatever reason, nefarious or otherwise,” that there is some person or some committee that is moving the market. How does the market even work?
So, just starting out, the stock market isn’t a single place. If you go to Kroger, go to Publix, go to Walmart, you go to this building, but there are also hundreds of Krogers or Walmarts and things around.
It used to be that there was a bunch of hand-waving and stocks trading, trading hands in the trading floor. Most of it is on computer now.
But whether it’s the New York Stock Exchange, whether it’s the NASDAQ, other exchanges around the world, stocks just change hands in the market. So conceptually, just think about what a market is.
And I’ll use Publix. I could have used any retailer, and I may change those throughout just so no one feels slighted. But basically, Publix may buy toothpaste for a dollar a tube, and they mark it up 5 cents, and they sell toothpaste for $1.05. If they sell millions of tubes of toothpaste, they make money.
Well, functionally, the stock market is exactly the same. The market makers, the people that buy and sell the stock, they hold inventories of this stock.
But who is selling and who is buying? That’s kind of where it gets a little bit mysterious for people.
I use Krispy Kreme a lot as an example in investing because I’m a donut hound, as many of you know. Krispy Kreme right now is trading around $3.08. Let’s just call it $3 to make it even.
Well, if I was wanting to sell my shares of Krispy Kreme — which I don’t own because we don’t believe in individual stocks, but use this as an example — if I was going to sell my Krispy Kreme, I could either go online, or still, you could call a stockbroker or an advisor, and say, “Hey, I want to sell my Krispy Kreme.” So that hundred shares gets listed in a computer, and so now I’m the seller. But I just say, “I want to sell it for this particular price.”
Most often, that’s just the market price, whatever it is, that minute that you’re placing the trade. There are other ways to do that, and that could make this an 18-hour show.
But just, I’m basically planning on selling my stock very close to the price that the last trade took place right before mine. Well, who am I selling it to? I’m selling it to somebody else, not Krispy Kreme, just another individual who could be in Europe. They want to invest in Krispy Kreme, and they’ve put in an order that says, “Hey, I want a hundred shares,” and they want to pay very close to the last price that changed.
So basically, the eight billion people that populate our planet, whether we’re through direct investing and trading securities, or even just being a consumer, you may not even invest, but you are actually affecting stock price just by where you shop, just by where you spend money, what kind of car you buy, and what kind of internet you subscribe to. All of that moves stock prices.
So it is just kind of like a giant farmer’s market except instead of the same 25 sellers that you see in the parking lot, and you kind of recognize, frankly, a lot of the people there each week whenever you go, it’s a market that’s populated by the eight billion people on this planet buying and selling securities. Well, how much of that activity goes on?
Now, as I said, about 85% of that is automated, either through high-frequency trading, through algorithms, through institutional managers, and so forth. And only about 10 to 15% of the activity in the stock market is driven by individuals getting rid of their Krispy Kreme or their NVIDIA or whatever.
So it’s just simply a place where people come together and agree on a price. So that begs the question: “Okay, well, what makes it a fair price? How do I even know how to price the stock in the future? What’s a good choice for how much I should pay?
“Is Krispy Kreme, in this example, worth $3? Or is it really worth $5? And I think I’ve found a great deal on two bucks a share.”
If more people are wanting to buy a stock than wanting to sell it at that current price, the price goes up. Just like real estate in Williamson County several years ago. If everybody was wanting a house during COVID, or maybe even right before COVID, things were heating up, and you’d have a bidding war on a house. The price would go up, and then the house would sell.
Stocks are the same way. Supply and demand drive that change.
Conversely, if more people want to sell their stock than buy it, what happens? They’re going to have to start discounting things just like Walmart does. If they have too much Halloween candy, come the first week in November, it’s on sale. They’ve got to get rid of it somehow.
Stocks function exactly the same way in the market. There’s more factors that people look at, certainly from the institutional side. But it really is just that simple.
So what’s going to move that supply and demand price? Because we set the price. What’s the starting point?
Well, basically, Paul’s video, in his interview with Chris, goes into this. What really prompted going into this detail today is you’re basically buying the future income, the future profits of a particular company, let’s say, General Motors, local employer.
If I think General Motors is going to make X amount of dollars over the next 10, 15, 20 years, I look at how much the stock is selling for, am I willing to pay that much to get that income stream from General Motors over the next several years? It’s either worth it to me, or it’s not.
The good news is, there are hundreds of thousands of people looking at all kinds of information to decide: “Is that a fair price for General Motors? Is $3 a fair price for a share of Krispy Kreme?”
So what are those people looking at? I’m going to touch later on, probably after the next break, on some of the data that drives this. There’s been some interesting turmoil in the statistical world this week. There’s always plenty to chat about on the show.
But how is the stock price going to move? Well, if we think that the earnings are going to go up, then people are willing to pay more for the stock because I’m buying the future earnings, and those future earnings are worth more. If there’s a CEO or a leadership change that might cause me to want to purchase shares because I think that CEO is going to turn things around, or I want to sell it because I think that CEO is going to go to a Coldplay concert.
So you just kind of toss your coin and see which way it goes. Let me preface this at this point by saying we don’t think anybody has the ability to consistently process all of this information and effectively beat the market by trying to pick a particular stock and get rid of a particular stock in order to beat large U.S. companies or small value companies or so forth.
It’s good to revisit those things. It could be that they’re going to have a new product launch, or we have these market-wide or economic factors, and we’ll touch on that after the break.
But unemployment data, we’re always talking about the job numbers. Is unemployment up or down? Is that going to move interest rates?
Is the Fed going to drop rates or so forth? And then, frankly, headlines. We’ve been through the pandemic. We’ve got a couple of wars going on right now, policy changes.
I think it’s safe to say that the last several weeks, at least once a day, one of the hosts has talked about tariffs, and policy in that regard. People are looking through all of that information to crunch some numbers and see: Is that going to increase the earnings of this stock, or is it going to decrease the earnings of this stock? As I said, there are tens of thousands of incredibly smart people all looking at all of this data all the time and giving folks advice, or just trading their own stock if we’re talking about the institution itself.
And then you have the technical people that aren’t really looking at market data, but they’re looking at just: Has the stock gone up the last 10 days? Has it beaten its 50-day moving average? Has it gone below its 200-day moving average?
There are all kinds of these technical analysis tools that technicians look at to say, “Oh, it’s time to sell this stock,” or, “It’s time to buy this stock.” And that drives the supply and demand for a particular security.
So when the market goes up, when you hear this phrase, “Hey, the market was up one and a half percent today,” really what they’re saying is the aggregate change in all of the stocks trading in that particular market — most of the time, New York Stock Exchange is what we’re reporting on primarily, or the S&P 500, for example — the aggregate price increase of all of those stocks, because people thought they were going to make more money, it may be that only 20 of them out of the 500, which is very common, that makes up about 40% of the index, so 20 stocks may have done really well. Four hundred eighty didn’t do quite so well, but the market “has gone up,” but your stock could have gone down that day on the market.
So it’s really just the summation of all of that activity of people trying to look at all of this information and decide, “Do I want to buy more of that stock? Do I want to get rid of that stock and buy something else?”
Totally separate from that, from the stock-taking drive, is, let’s say I own 10 stocks, and let’s say that my daughter gets engaged, and now I have to come up with money for a reception. Well, I’m not really trying to stock pick, but now I have to come up with some money.
The previous segment, I think Dr. Friday was talking about someone selling stock for a vacation. So there are a lot of reasons that people end up selling a stock, but how do I pick which of the 10?
I go back to all this data, what I think it’s going to do, and try to predict the future. Well, most of us know nobody can predict the future very well consistently. That’s certainly what you’ve heard from us over the last 20-plus years.
When we come back, we’re going to talk about some of the data, some of the ratios that people look at, and why there may be some additional uncertainty. There’s never total certainty in the market, no illusion there, but why there may be some additional uncertainty coming up in the coming weeks related to that.
President Trump fired the head of the Bureau of Labor Statistics, and you might’ve recalled that we’ve had some interesting job revision numbers over the last couple of years. Frankly, it’s gone on forever, but it just seems to have been more egregious, and Trump was paying more attention to it than maybe previous presidents.
But firing this person has sparked worries about the reliability of economic data. So everybody’s out there waiting with bated breath to hear the next job number to make this decision on “Should I pay more or less for a stock?”
Now, people are worried about this extra variable of, “Okay, am I getting the real number? Or am I getting a number that the current administration wants me to believe is true?”
So I don’t think that’s anything necessarily new, that we’ve always wondered, Is there some massaging that goes on behind the scenes for data? But it is now front and center. We fired the person that’s responsible for reporting these things. And there’s a lot of decision-making that goes on in this country based on these statistics.
You just think about even, say, Social Security benefits, if the CPI, one of the benchmarks for inflation, goes up, that affects the increase in a Social Security benefit and those kinds of things. Tax brackets, does the standard deduction move a certain amount, or not earned income credit, but alternative minimum tax, some of those kinds of things?
Everybody is waiting for this data. Well, if all of a sudden there’s this extra concern that the administration is just trying to send out good information or keep bad information from happening, now it makes it harder for folks to value a stock.
We’ll spend more time on private equity in the next segment. But the issue is, we have all of this public information about stocks. We’re listening to this.
You’re reading the data. You’re getting earnings reports. They have earnings calls. A lot of this is public information in the shares trading.
None of that exists in the private equity market. And if we start to see those kinds of assets in 401(k) plans, then that could be a real challenge.
Frankly, I’m curious how ERISA, the Department of Labor that oversees retirement plans and pension funds and things like that, how they’re going to square private equity and, frankly, things like digital currency with a plan’s fiduciary obligation to make sure that they are getting good execution, fair prices for everything inside of the plan. I think that’s going to become very problematic. Totally separate from the fact that the investors may misuse or get clobbered by some of these things.
But one of the concerns specifically is these things called TIPS, Treasury Inflation-Protected Securities. It’s a particular U.S. Treasury bond that is linked, the payment rate is linked to the inflation rate. Well, if all of a sudden we’re not sure what the inflation rate is going to be, or we question the data from the Bureau of Labor Statistics, now it’s going to be really hard to price even a Treasury bond that’s tied to the inflation rate.
Before we go to this next break, we think about all of this complexity. The interesting thing is, knowing all of this information is really unnecessary for the individual investor trying to pick stocks because there’s just too much information to consume.
And the huge majority of research out there shows that the more you engage in that behavior of trying to guess the direction of a stock, see the news change. We’ve kidded about the CEO of Coldplay — not the CEO of Coldplay, the guy that was at the concert.
I believe that was privately held anyway, so I don’t think it’s publicly traded yet. But there was stuff on the Reddit or the Substack on, “Is that going to affect the stock price and the IPO whenever it goes public?” Who knows?
You just have to hitch your horse, hitch your wagon to the horses of capitalism, and they will absolutely create a return over time. So we will look at some of the ways to take advantage of that in both individual and 401(k) plans next and see what’s going on in the 401(k) world.
Advisory services offered through Paul Winkler, Inc an SEC registered investment advisor. The opinions voiced and information provided in this material are for general informational purposes only and not intended to provide specific advice or recommendations for any individual. To determine what investments are appropriate for you, please consult with a financial advisor. PWI does not provide tax or legal advice. Please consult your tax or legal advisor regarding your particular situation.
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