What is a Catalyst?
A catalyst is news or information that changes a pricing trend in a security.
How Does a Catalyst Work?
Let's assume that Company XYZ announces earnings that far exceed analysts' expectations. This information could serve as a catalyst that kick-starts trading in the stock and changes its perception from a "dog" to a "star" among investors.
Catalysts can drive an investment up or down. A favorable event can push a stock to new heights, but if events turn sour, the exit for these shares can be very narrow and very crowded.
Let's take the example of a classic investment catalyst: adverse press publicity. A fundamentally strong company can get unfairly beaten up by the press and by analysts, driving down its stock price to unjustified lows. In this case, the catalyst would signal a great opportunity for investors to buy, not sell.
Why Does a Catalyst Matter?
Catalysts can change the perception of a security. They can be almost anything: earnings releases, favorable or unfavorable economic reports, management changes, new products, product recalls, successful (or unsuccessful) marketing campaigns, lawsuits, etc.
Quite often, catalysts are the news or events that finally call attention to fundamentals or other intrinsic factors that have existed for some time in a security. When investors can identify what events or information will be catalysts for a particular security, they essentially are able to predict which way the security will go if and when the information becomes public knowledge.
However, catalysts must be considered within the context of investment strategy. Investors buy when they anticipate the market will rise; they sell when they anticipate the market will fall. Catalysts are only one factor in the equation.