Price and Value

In the realm of financial assets, value is a function of the cashflows the asset can produce from now until it’s applicable end of life discounted appropriately to today’s worth considering factors like risk, growth.

Price is determined by the equilibrium of supply and demand. More supply than demand, the price goes down. More demand than supply, the price goes up.

Most of the time, these two numbers will not be the same. In other words, most financial assets are mispriced. Both price and value are a result of different input parameters. Price is determined by market factors like news, overall perception of the company, trading. In the short term the price is a reflection of the market sentiment. While value is determined by the quality of the underlying asset. How the business is making money and what it’s prospects are in the future. In the long term, the market behaves like a weighing machine, reflective of the overall performance of the underlying asset. In the short term, the market behaves like a voting machine.

In an ideal world, these systems won’t be mixed. But in reality there are a few cases where they influence each other. Share buybacks and issuing new shares can have effects on the price and value. In both cases the supply of shares are being altered which can directly affect the price. From a value point of view, either of these operations are reflective of the quality of the business. If a company is buying it’s shares back, it can be seen as a technique to prop it’s prices up. If the company is issuing new shares, that can have direct impact on the debt it has and increase the overall cash in the company. Making it more valuable.

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