Intrinsic and market value or the price of a stock are important distinctions that investors should understand as they develop their investment portfolios. The intrinsic value or price of a stock is the fundamental value of the stock. Fundamental value takes a variety of near-real-time business metrics to define. On the other hand, market value/price takes fundamental value and pricing based on market dynamics into play. Market value equates to what you would pay for the stock in the public market. Market factors such as momentum, popularity, and others continue to define the ‘value’ of a stock and, thus, the market price. Let’s look at both intrinsic and market value more closely.
Intrinsic Value/Price
As mentioned above, intrinsic value is a key component of a company's actual valuation. It is part of the fundamental analysis conducted and is usually expressed as a capitalization value. This can vary based on the analysis completed, as no single source defines how to calculate intrinsic value.
Some analysts use Torbin’s Q ratio (market value of the replacement of assets), book value (assets-liabilities), liquidation value, and other calculations that essentially put a ‘value’ on the business. The difficulty with intrinsic valuation is not only the calculations used and access to this information but also evaluating companies with a lot of Intellectual property (IP). Traditional (fundamental) analyses don’t have appropriate calculations to integrate IP or other intangible assets.
Example – what would Apple/Google/Nvidia/Microsoft’s valuation be without their proprietary technology and patents?
The key takeaway is that intrinsic value is the best calculation (or estimate) of the company's actual value. However, this is not what any of us pay for stock in the company. That is where Market Value comes into the picture.
Market Value
The ‘market’ in this discussion refers to the stock market. Given our financial discussion, this is fairly obvious, but it is important to make it clear.
So, if intrinsic value is the most accurate representation of the value of a company, why is the stock selling so much higher than the capitalization of the company?
Think supply and demand. When higher demand for a product or service and supply stays constant, prices increase. When supply exceeds the demand for a product or service, prices decrease. This is the tale of the stock market.
The stock market reports a company's market valuation based on all market participants. If we all buy the same stock, the stock for that company will go up. Also, if we all sell the same stock, the price will come down. Obviously, there are more factors moving the market, but from a simplistic lens, this is the movement we see. As investors participate in the market, the supply and demand responses impact pricing changes.
Other vital components we mentioned above are related to popularity and momentum. As a stock gains popularity (think any big technology stock right now related to AI) or momentum (Nvidia, Apple, Google, Microsoft), we see market shifts as well. Market sentiment is another factor to consider when trying to understand a stock's market value.
Market value tends to be much higher than intrinsic value, but investors must be cautious about valuation metrics. Due to many of the factors we mentioned in this article, concerns around overvaluation should always be considered.
In the end
The market is tricky. There are unlimited metrics and analyses to consider when creating your portfolio. As always, it’s better to have an expert with the heart of a teacher at your side to walk you through the complexity. Our team at Whitaker-Myers Wealth Managers is trained and ready to walk with you on this path.
If you need help getting out of debt or understanding the best path to financial freedom, consider talking to our incredible Financial Coaches. Ask them about the 7 baby steps to financial peace and anything else on your mind. If you would like to talk more about investing or have questions about your portfolio, talk to one of our Financial Advisors today.
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