Supply and Demand: Why Investors Need to Understand This Fundamental Rule

For investors looking to predict asset price movements, understanding the concepts of supply and demand is not just theoretical but a crucial tool for reading the market. Whether it’s the stock market, cryptocurrency market, or other financial markets, these two forces drive prices every time we see changes.

Buy and Sell Demand: The Market Fundamentals

When prices rise rapidly, it’s not due to any other reason but because there are more buyers than sellers. Conversely, when prices plummet sharply, it indicates that selling pressure dominates. This scenario is called an imbalance of (Demand) and (Supply).

Demand means the desire to buy goods or services at various price levels. If we plot this demand on a graph, it shows that at lower prices, buyers are willing to purchase more, but at higher prices, demand decreases. This is the law of demand, which has an inverse relationship with price.

On the other hand, supply is the willingness to sell goods at different price levels. At higher prices, sellers want to sell more, but at lower prices, they reduce the quantity offered. This relationship is called the law of supply, which correlates directly with price.

Equilibrium: The Price-Determining Point

The actual market price doesn’t happen randomly but results from the (Equilibrium) point, where the demand and supply curves intersect. At this point, the quantity buyers want matches the quantity sellers are willing to offer.

If the price rises above the equilibrium point, excess supply occurs due to overproduction, forcing sellers to lower prices. If the price drops below equilibrium, shortages happen, leading buyers to pay higher prices. The price naturally moves back toward the market’s equilibrium point.

Factors Affecting Demand in Financial Markets

Liquidity: When more money flows into the market, investors have more capital and become buyers. Conversely, during liquidity shortages, demand decreases.

Interest Rates: When interest rates are low, investors seek returns in riskier assets, increasing demand.

Confidence: A key psychological factor. Good news boosts confidence and demand, while bad news reduces it.

Factors Affecting Supply in Financial Markets

Corporate Policies: Capital increases raise supply; share buybacks reduce it.

New Listings (IPO): New companies entering the market increase supply.

Legal Regulations: Restrictions on share issuance can limit supply.

Reading Buying and Selling Pressure Through Price

Demand and supply refer to the factors driving prices. Investors can interpret these signals through Price Action.

Green Candlestick (Close higher than open) indicates buying pressure, strong demand.

Red Candlestick (Close lower than open) indicates selling pressure, strong supply.

Doji (Open and close are close) shows indecision, with both sides battling equally; no clear trend.

Identifying Reversal Points: Demand Supply Zones

Traders use Demand Supply Zones to forecast where prices might change direction.

DBR (Demand Zone Drop Base Rally): Price drops sharply due to heavy selling (Drop), then forms a base (Base). When buying interest returns, the price rallies (Rally). Traders can buy when the price breaks above the zone.

RBD (Supply Zone Rally Base Drop): Price rises due to strong buying (Rally), then consolidates (Base). When selling pressure resumes, the price drops (Drop). Traders can sell when the price breaks below the zone.

Following the Trend: When One-Sided Momentum Remains Strong

RBR (Rally Base Rally) - Uptrend Continues: Price moves higher (Rally), forms a base (Base), then continues upward (Rally). This indicates buying strength and strong demand. Traders can buy on a breakout above the zone to follow the uptrend.

DBD (Drop Base Drop) - Downtrend Continues: Price drops (Drop), forms a base (Base), then continues downward (Drop). This signals persistent selling and strong supply. Traders can sell on a breakdown below the zone to follow the downtrend.

Summary

Demand and supply mean the two fundamental forces that make the market operate. Both economists and professional investors use this concept. The difference is that investors aim to use it for profit.

Learning about this isn’t difficult if you practice. Observe price charts during major news events and see how buying and selling pressures clash. This is the best way to learn because the market will teach you every time you look at it.