The secret to stock market rises and falls: understanding demand and supply allows you to predict price trends

When investing in stocks, have you ever wondered why sometimes a stock soars dramatically, while other times it plummets? What is the true driving force behind these movements? The answer is simple—demand and supply. These two seemingly straightforward economic concepts are actually the core forces that determine stock price fluctuations.

What are Demand and Supply? Why Investors Must Understand Them

Many people think demand is simply “I want to buy,” and supply is “someone is selling.” But in reality, it’s much more complex.

Demand: The Psychological Battle Behind Buy Orders

Demand (Demand) refers to the quantity of goods or services people are willing to purchase at different price levels. When plotted, this relationship forms the famous demand curve.

For example, in stocks: when a stock is priced at 100 yuan, perhaps 1,000 buyers want to buy it. But if the price rises to 150 yuan, maybe only 500 buyers are willing to pay that price. This illustrates what the demand curve tells us—higher prices lead to fewer buyers.

Why does this happen? Economists summarize two reasons:

Income Effect: When the stock price drops, your money effectively becomes more valuable. For instance, if you could only buy 10 shares before, now you can buy 15. So, you’re more inclined to buy.

Substitution Effect: When this stock becomes cheaper compared to others, it becomes more attractive. You might abandon other stocks and buy more of this one.

Many other factors influence demand:

• Investors’ expectations (if they think the stock will rise, demand increases)
• Overall economic conditions (a good economy boosts stock buying)
• Liquidity in the market (more money circulating means more trading)
• Policy guidance (government support for certain industries increases demand for their stocks)

Supply: The Logic Behind Sell Orders

Supply (Supply) is the quantity of goods or services sellers are willing to offer at different price levels, forming the supply curve.

The logic of supply is the opposite: higher prices motivate sellers to sell more. For example, if a stock’s price rises from 100 to 150 yuan, those who were hesitant to sell at lower prices now want to sell because the price is attractive. This reflects the law of supply—higher prices lead to increased supply.

Factors mainly affecting stock supply include:

• Decisions by listed companies (issuing new shares or buybacks)
• New IPOs (initial public offerings increase the total number of shares)
• Shareholders’ willingness to sell (major shareholders reducing holdings increases supply)
• Cost factors (lower production costs can increase supply)

The Collision of Demand and Supply: How Is Price Determined?

Looking at demand or supply alone can’t explain why the stock price is at its current level. The real determinant is the point where the demand curve and supply curve intersect, called the equilibrium point.

At this point, the quantity buyers want equals the quantity sellers are willing to provide. The market stabilizes at this price and quantity unless new forces intervene.

Imagine:

• If the price suddenly jumps high, sellers think “This price is too good to pass up, I’ll sell more.” But buyers think “This price is too expensive, I’ll buy less.” The result is excess supply and insufficient demand, leading to inventory buildup. This pressure pushes the price down toward equilibrium.
• Conversely, if the price drops sharply, buyers rush in to buy more, while sellers hold back. This creates excess demand, pushing the price back up to the equilibrium.

So, the equilibrium point acts like an “automatic regulator” of the market—regardless of fluctuations, it tends to return here.

What’s Special About Demand and Supply in Financial Markets

Stock market demand and supply are more complex than those for ordinary goods because many intertwined factors are involved.

Core Factors Affecting Stock Demand

• Macroeconomic signals: GDP growth, inflation, interest rates all influence investor appetite. For example, when the central bank cuts interest rates, money becomes cheaper, encouraging more investment.
• Market liquidity: More money in the financial system means more funds flowing into stocks, increasing demand.
• Investor confidence: Positive market expectations can trigger a surge in buying. Conversely, bad news can lead to collective selling.

Core Factors Affecting Stock Supply

• Decisions by listed companies: Whether they issue new shares or buy back stock directly affects supply.
• New IPOs: When new companies go public, they add fresh shares to the market.
• Regulatory rules: Restrictions on share reduction or IPO approval processes influence supply levels.

How to Use Demand and Supply in Practical Investing

This isn’t just economic theory. Understanding demand and supply allows you to anticipate stock price directions in advance.

Using Fundamental Analysis to Understand Demand and Supply

When analyzing a stock, the surface-level focus is on price movements, but fundamentally, it’s about whether the company is worth buying.

For example, if the company’s next quarter earnings outlook is positive, analysts will raise target prices. Buyers will increase their demand, willing to pay higher prices to own the stock. Meanwhile, sellers may hesitate to sell at lower prices, reducing supply. The result: demand ↑ supply ↓, and the stock price rises.

Conversely, negative news causes demand to fall and supply to increase, leading to a price decline.

Using Technical Analysis to Capture Demand and Supply Signals

Technical analysis is essentially telling the story of buyers and sellers through chart language:

1. Observing candlestick colors to gauge buying vs. selling strength

• Green candlestick (close > open) = buyers win, demand is strong
• Red candlestick (close < open) = sellers win, supply is strong
• Doji (close ≈ open) = indecision, neither side dominates

2. Analyzing trends for long-term strength

• Continuous new highs = buyers consistently outperform sellers, demand persists
• Continuous new lows = sellers dominate, supply is abundant
• Range-bound movement = balance between buyers and sellers, waiting for breakout

3. Support and resistance levels reveal hidden orders

• Support levels often have many “buy orders” waiting; when price drops to these levels, they tend to hold
• Resistance levels have many “sell orders”; when price rises to these points, they tend to cap the move

Using Demand and Supply Theory to Bottom-Fish and Top-Sell

If you want to apply demand and supply theory in real trading, a common method is “Demand and Supply Zone Trading.”

Spotting Reversal Opportunities (Reversal Trading)

Demand Rebound (Bottom Reversal): A stock experiences a continuous decline (excess supply), pushing the price very low. When it hits an extreme level, buyers think “This is too cheap, I’ll buy the dip.” A tug-of-war begins at this low zone. Suddenly, positive news emerges, boosting buyer confidence, and the price gaps up through the zone—this signals a reversal.

Supply Peak (Top Reversal): A stock surges higher (excess demand), pushing the price very high. When it reaches an extreme, sellers start to say “This is too expensive, I’ll sell.” A struggle ensues at this high level. Then, negative news appears, sellers gain confidence, and the price drops sharply through the zone—indicating a top reversal.

Following Trends (Continuation Trading)

Most of the time, trends continue rather than reverse.

Uptrend continuation: A stock rises sharply from the bottom (strong demand), reaches a certain level, and some traders start taking profits. Buyers and sellers fight within a range, but this is just a pause, not a reversal. Demand remains strong, and with new positive catalysts, the price breaks through the range and continues upward. Riding this move can be highly profitable.

Downtrend continuation: A stock drops sharply from the top (excess supply), reaches a support zone, and bottom-fishers start buying. The fight within this zone is just a breather; supply pressure hasn’t eased. If negative news or market shifts occur again, sellers will regain control, and the price will continue downward. Shorting or avoiding buying at this point is the right move.

Final Advice

Demand and supply are not esoteric concepts—they are reflected in every candlestick and every price fluctuation. What you need to do is:

1. Learn to recognize signals: When is demand strong, and when is supply excessive? This requires observing charts and market movements carefully.
2. Combine with fundamental analysis: Technical signals should be validated with company fundamentals to avoid false breakouts.
3. Practice repeatedly: Continuously test these theories in live trading to develop your own system.

As long as you truly understand how demand and supply drive stock prices, you are not far from becoming a rational investor.