Snapshots in time – How investment securities are valued Every securities market transaction requires a buyer and seller with differing viewpoints.
Markets can operate, because there are differences between investors in their assessments of the intrinsic value and risk of securities.
Current investment values vary in the eyes of the many beholders of investment market securities. Knowledgeable participants in securities markets use a wide variety of methods, data, metrics, and information to assess the value and risks of particular securities.
The viewpoints of market participants regarding any particular security can vary dramatically. One participant might view the current market price as a wonderful bargain, while another might think that the price is excessive. This disparity of viewpoints permits markets to operate. A fluctuating market pricing mechanism sets the current price within this range of conflicting opinions about value and risk. The market matches buyers and sellers to complete transactions and balance supply and demand at each point in time.
Valuation involves both an assessment of the intrinsic value of a security and the likelihood that such value will be realized. The best that market participants can do is to incorporate two things into their valuation of that security: a) currently known information and b) their speculation about what might happen and how it would affect value in the future. Market participants must buy or sell at the current market price or remain inactive. Whether or not they act depends upon their assessment of value and risk versus the risk/return consensus that is reflected in the current market price.
Generally, market traded equity and debt securities are legal claims to some aspect of the finances of a business or governmental entity. While potentially quite complex, the “easy” part of the analysis relates to assessing the underlying value of a security through financial modeling or whatever other valuation method an investor may use.
Unfortunately, future-oriented financial models are deceptively straightforward. Forecasted numbers on paper have a tendency to seem more real than they actually are. Perhaps this is because they are often similar in format to the reporting of actual historical financial performance.
Investment valuation forecasts on paper are simply rational fantasies about an unknowable future. Every investor, analyst, business planner, manager, and executive faces the same problems with the reliability of forecasting.
The major problem with plans about the future is risk and whether this risk can be contained and managed. [...]