The “clearing price” is the price at which a security is traded when the supply and demand for that security are matched in the marketplace.
In other words, it is the price at which the quantity supplied equals the quantity demanded, thus “clearing the market”.
The concept of the clearing price is fundamental to understanding how market prices are determined. It comes from the basic economic principle of supply and demand:
- If the quantity supplied exceeds the quantity demanded at a particular price (excess supply), the price will tend to fall until the market is cleared.
- Conversely, if the quantity demanded exceeds the quantity supplied at a particular price (excess demand), the price will tend to rise until the market is cleared.
The clearing price is particularly important in auctions, including those that occur in trading securities.
For instance, in an initial public offering (IPO) or a Treasury auction, securities are sold to the highest bidders until all securities being offered have been sold. The lowest price at which all the securities can be sold is the clearing price.
In commodity markets and stock exchanges, the clearing price is determined by complex algorithms that match buy and sell orders to find the price at which the greatest volume of the commodity or security can be traded.