How do economists/investors predict supply and demand in financial markets such as indices, currencies, etc?
closed as too broad by Giskard, Herr K., Hector, BB King, Theoretical Economist Nov 23 '17 at 2:01
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There’s a lot of techniques used, but it is extremely rare that forecasts are on “supply and demand”, rather prices. To go from supply and demand to prices (which is what investors are interested in), you need supply and demand functions, which nobody can really estimate well.
I will first comment on supply and demand analysis for the bond market (the market I am familiar with), then have a few quick comments on price forecasts.
One does see attempts to match up the supply of government bonds (based on projected deficits) to what end investors want to buy, but such analysis is only of a niche interest. For example, governmental debt agencies try to gauge what maturity structure of issuance will match investor needs.
Meanwhile, on the demand side, people look at the effects of regulatory changes, and how much demand that will create for long-term bonds. The UK gilt curve was greatly affected by pension demand for long-term gilts.
There’s a wide range of techniques used in practice to forecast prices (rates in fixed income). If one looks at the debate about market efficiency, most do not work very well (bulk of investors underperform the market average). Some analysts use methods like story-telling or technical analysis, which are generally looked down on by academic studies. However, the bulk of the analysis is fair value analysis.
For example, if I a wanted to gauge fair value for a 2-year bond, I am just going to look at the outlook for central bank policy. This is because the fair value of a bond is the expected cost of financing over the life of the bond (the short rate), which is set by the central bank. If one is interested in corporate bonds, one estimates the probability of default, to get an idea what spread is fair. Equity investors attempt to forecast future dividends and earnings. All of these analyses can be done in a wide variety of ways.