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Stock investment comes part and parcel with discussions about quarterly earnings, P/E ratios, and a host of other considerations designed to measure the "intrinsic value" of a stock and whether it "should" go up or down, or predict future prices based on whether the company is growing/shrinking.

Considering only stocks that don't offer dividends:

Why do investors care about P/E ratio, revenue, or any other company revenue/growth metric? If a stock is worth what people are willing to buy/sell it for, why are investors making their buy/sell decisions based on metrics that don't affect anyone outside the company?

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    $\begingroup$ A company is worth what people are prepared to pay for it. One theory is that the rational valuation is the current value of its future earnings, adjusted for risk, debt, takeover or breakup value etc. One part of estimating future earnings is looking at current earnings; another part is projecting how these may change in future. $\endgroup$
    – Henry
    Jan 14 at 1:27
  • $\begingroup$ This question is far too long, with too much editorial content. It could be replaced with “Why do investors look at intrinsic value measures, like the P/E ratio?” and lose no useful information. $\endgroup$ Jan 14 at 1:33
  • $\begingroup$ If you consider only two stocks that will never pay dividends, these stocks have no value. The value of a stock "should" be the discounted sum of dividends paid in the future. The expectations regarding those dividends hinge on "fundamentals" such as the value measures you mention. $\endgroup$
    – Bayesian
    Jan 14 at 15:11
  • $\begingroup$ @Bayesian Well, fiat money pays no dividends. $\endgroup$ Jan 14 at 19:59
  • $\begingroup$ @Michael Greinecker To me, fiat money and stocks are inherently different concepts. $\endgroup$
    – Bayesian
    Jan 14 at 22:46
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If the price is too low (relative to any metric, be it earnings, growth, etc.), then anyone can profitably launch a takeover/acquisition bid.

Example. A company has 1B shares each priced at \$1 (so market cap is \$1B), pays no dividends, and earns \$100B (profits) per year. Then one could buy up all 1B shares for \$1B, own the company entirely, and enjoy \$99B in profits in just the first year alone.

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  • $\begingroup$ That's a great explanation for why a stock price doesn't fall below a given value relative to revenue. Can this also explain why stock can be "overvalued"? $\endgroup$
    – spiffytech
    Jan 14 at 2:48
  • $\begingroup$ @spiffytech: My above answer explains why share prices cannot be "too" low (relative to metrics such as earnings, growth). We could also give similar explanations for why they cannot be "too" high (e.g. shareholders would sell, short-sellers would come in). The question of why they can be "too" high (or "too" low) is a different question that you should ask separately. (Some believers in the Efficient Markets Hypothesis would even deny the possibility that share prices can ever be "too" high/low.) $\endgroup$
    – user18
    Jan 14 at 3:01
  • $\begingroup$ @spiffytech "overvalued" is the opposite, imagine Bob's Lemonade Stand has a market cap of $1B... nobody in their right mind would buy it for that price. $\endgroup$
    – user253751
    Jan 14 at 17:28
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In short: Yes, a stock is worth whatever people are willing to buy and sell it for.

However, the price people are willing to buy at (or sell at) depends on earnings. A company’s worth is influenced by its earnings and I don’t want to pay more for a company than its worth. Overly simplified: The more money a company takes in, the more money it is worth.

Also look into the discounted cashflow method of evaluation.

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The question at present is too long, and offers a misleading view of equity analysis.

The first thing to note is that actual prices during a trading day can move around for any number of reasons. High frequency trading algorithms failing, “fat finger” errors, as well as speculative bubbles happen. No serious observer of financial markets is unaware of this reality.

However, not many investment professionals suggest that they can predict all such events. They instead market some “system” for making trading decisions that they use (which includes just buying the index).

The standard starting point for financial analysis is discounted cash flow analysis. Even if you cannot predict the traded price on a given future day, you still hope to get cash flows from the security. For a bond, cash flows are generally known (although some payments can be conditional on other requirements). For equities, cash flows are less easily predicted.

The sources of cash flows include:

  1. dividends,
  2. share buybacks,
  3. a payment when the firm is taken over (or recovery from winding down operations).

The first two are cash payments out of the firm’s earnings and cash flows. That is why they are of interest.

A takeover value represents the value of the firm as a target. Analysts study the industry to gauge this. A company with growing sales may be of interest to another firm, even if it is currently unprofitable.

Although analysts will have preferred metrics for intrinsic valuation, the variety of analysis produced suggests that there is no normative demand that a particular one should be used.

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Here is what Warren Buffett says about intrinsic value:

https://www.youtube.com/watch?v=7NiVg2xLP7U

The generic answer is "discounted cash flow analysis" with uncertain cash flow projections and choice of discount rate. The longer the time horizon the more cash flow uncertainty and the less sensitive the analysis to choice of discount rate.

In this answer Buffett says Berkshire Hathaway does not issue dividends. So the profit strategy for a Berkshire investor is a future sale in the secondary market for a capital gain.

https://www.kiplinger.com/slideshow/investing/t052-s001-9-highest-yielding-warren-buffett-dividend-stocks/index.html

Berkshire Hathaway (BRK.B) famously doesn't pay dividends – it has better things to do with its shareholders' cash – but Chairman and CEO Warren Buffett sure loves collecting them. ... The great majority of the stocks in Berkshire's portfolio are dividend stocks.

Warren Buffett describes the distinction between investment decisions based on business models and the loose connection to secondary market prices in this two hour interview with the Financial Crisis Inquiry Commission:

http://fcic.law.stanford.edu/interviews/view/19

One feature of markets I did not understand prior to the global financial crisis is that debt deals in money and credit markets drive up the valuation of assets and equity (book value of equity is the difference between asset valuations and outstanding debt). So if there is a crisis in money and credit markets, such as during the Great Depression or Great Recession, asset valuations plunge along with the book value of equity. Because fear is more compelling than greed the equity valuation on secondary markets plunges rapidly in a financial crisis.

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