Productivity at your daily life

As this example illustrates, even small changes in the size or riskiness of expected future dividends can cause large changes in stock prices. What might cause investors to change their expectations about future dividends? It could be new information about the company, such as preliminary results for an R&D program, initial sales of a new product, or the discovery of harmful side effects from the use of an existing product.
Or, new information that will affect many companies could arrive, such as a tightening of interest rates by the Federal Reserve. Given the existence of computers and telecommunications networks, new information hits the market on an almost continuous basis, and it causes frequent and sometimes large changes in stock prices. In other words, ready availability of information causes stock prices to be volatile! If a stock’s price is stable, that probably means that little new information is arriving.

But if you think it’s risky to invest in a volatile stock, imagine how risky it would be to invest in a stock that rarely released new information about its sales or operations. It may be bad to see your stock’s price jump around, but it would be a lot worse to see a stable quoted price most of the time but then to see huge moves on the rare days when new information was released. Fortunately, in our economy timely information is readily available, and evidence suggests that stocks, especially those of large companies, adjust rapidly to new information. Consequently, equilibrium ordinarily exists for any given stock, and required and expected returns are generally equal. Stock prices certainly change, sometimes violently and rapidly, but this simply reflects changing conditions and expectations. There are, of course, times when a stock appears to react for several months to favorable or unfavorable developments. However, this does not signify a long adjustment period; rather, it simply indicates that as more new pieces of information about the situation become available, the market adjusts to them. The ability of the market to adjust to new information is discussed in the next section.

Taken From : Five-Minute MBA – Corporate Finance

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