Stock Valuation

24/10/2024, 15:38 topic: STOCK VALUATION COMMON TERMS 1. Stockportion of ownership of a corporation 2. Common Stock - most basic form of ownership, including voting rights on major issues, in a company. 3. Market Value - current price of a share of stock in the stock market. 4. Book Value value of a common stock expressed as the firm's owners' equity divided by the number of common shares. 5. Dividend payment to shareholders, on a per-share basis, out of the company's earnings. 6. Blue-Chip Stock - common stock issued by a well-established and respected company with a sound financial history and a stable pattern of dividend payouts. 7. Mutual Fund - company that pools cash investments from individuals and organizations to purchase a portfolio of stocks, bonds, and other securities 8. Exchange-Traded Fund - bundle of stocks or bonds that are in an index that tracks the overall movement of a market, but unlike a mutual fund can be traded like a stock Stock Valuation is a method of determining the intrinsic value of a stock or a company's shares. Every investor who wants to beat the market must master the skill of stock valuation. The importance of valuing stocks evolves from the fact that the intrinsic value of a stock may be different from its current price. By knowing a stock's intrinsic value, an investor may determine whether the stock is over- or undervalued at its current market price. TYPES OF STOCK VALUATION Absolute Absolute, or intrinsic, stock valuation relies on the company's fundamental Information. The method generally involves the analysis of various financial information that can be found in, or derived from, a company's financial statements. Notable absolute common stock valuation techniques include the Dividend Discount Model (DDM) and the Discounted Cash Flow Model (DCF). Relative Relative stock valuation compares the potential investment to similar companies. The relative stock valuation method calculates multiples of similar companies and compares that valuation to the current value of the target company. The best example of relative stock valuation is comparable company analysis, sometimes called trading comps. 24/10/2024, 15:38 TECHNIQUES IN STOCK VALUATION Dividend Discount Model (DDM) The DDM is based on the assumption that the company's dividends represent the company's cash flows to its shareholders. Essentially, the model states that the intrinsic value of the company's stock price equals the present value of the company's future dividends. Note that the dividend discount model is applicable only if a company distributes dividends regularly and the listribution is predictable. Discounted Cash Flow Model (DCF) Under the DCF approach, the intrinsic value of a stock is calculated by discounting the company's free cash flows to its present value. The main advantage of the DC model is that it does not require any assumptions regarding the distribution of dividends. Thus, it is suitable for companies with unknown or unpredictable dividend distributions. Comparable Companies Analysis Comparable companies analysis is an example of relative stock valuation. Instead of determining the intrinsic value of a stock using the company's fundamentals, the comparable approach aims to derive a stock's theoretical price using the price multiples of similar companies. STOCKS Intrinsic Value > Market Price = undervalued Intrinsic Value < Market Price = overvalued Intrinsic Value the perceived or calculated value of a company's stock based on fundamental analysis. Fundamental analysis involves evaluating a company's financial health, its earnings, dividends, growth rate, and other financial indicators to determine its underlying value. Market Price - the current price at which an asset, commodity, or service can be bought or sold in a market. topic: RISK MANAGEMENT tolerating the potential for losses the probability of an adverse outcome uncertainty of future outcomes 24/10/2024, 15:38 TYPES OF RISKS Business Risk Changes in demand Input prices Obsolescence due to technological advances Non-Business Risk Pandemic Behavior Compliance Financial Risk Movement of the market (fluctuation in interest rate) Currencies and stocks/share prices TYPES OF FINANCIAL RISKS Market Risk Price Risk: The risk of losses due to changes in the market prices of financial instruments like stocks, bonds, commodities, and currencies. Interest Rate Risk: The risk that arises from fluctuations in interest rates, affecting the value of fixed-income securities such as bonds. Credit Risk Default Risk: The risk that a borrower may not repay a loan or meet its contractual obligations, leading to financial losses for the lender. Counterparty Risk: The risk that the other party in a financial transaction may default, especially in derivative contracts. Liquidity Risk Asset Liquidity Risk: The risk that assets cannot be sold quickly enough in the market without significantly affecting their prices. Funding Liquidity Risk: The risk that a firm will be unable to meet its short-term financial obligations. Operational Risk Internal Factors: Risks arising from internal factors such as inadequate processes, systems, people, or external events. External Factors: Risks arising from external events like natural disasters, political instability, or technological failures. Currency Risk Transaction Risk: The risk that arises from fluctuations in exchange rates between the transaction date and the settlement date. Translation Risk: The risk that occurs when a company's financial statements are translated into a different currency.