# Stock Market Question **URL:** \ **Category:** Factual Questions\ **Created:** [July 24, 2001, 7:58pm UTC](https://boards.straightdope.com/t/stock-market-question/73665 "2001-07-24T19:58:29Z")\ **Posts on this page:** 8\ **Page:** 1
**Author:** ![Chubbs](https://avatars.discourse-cdn.com/v4/letter/c/47e85d/32.png) [@Chubbs](https://boards.straightdope.com/u/Chubbs)\ **Post date:** [July 24, 2001, 7:58pm UTC](https://boards.straightdope.com/t/stock-market-question/73665/1 "2001-07-24T19:58:29Z")
Is there a formula to figure out what a stock is actually worth? ---
**Author:** ![Kent\_Clark](https://sea3.discourse-cdn.com/straightdope/user_avatar/boards.straightdope.com/kent_clark/32/105_2.png) [@Kent\_Clark](https://boards.straightdope.com/u/Kent_Clark)\ **Post date:** [July 24, 2001, 9:06pm UTC](https://boards.straightdope.com/t/stock-market-question/73665/2 "2001-07-24T21:06:54Z")
Not the way you want it to. There are too many factors in determining a company’s worth to boil it down to a formula. Is it in a market that’s exapnding or declining? Do its sales exceed or lag behind the industry average? Is it spending money on development and capital improvements, or is it cutting back to make the bottom line look better? Is its management team superior? Etc. etc. You can look at two virtually identical houses in different neighbrohoods and they’re priced thousands of dollars apart. A Lexus shares many components with a Toyota, yet they’re entirely different classes of automobiles. Value is more than just the sum of individual parts. ---
**Author:** ![lucwarm](https://avatars.discourse-cdn.com/v4/letter/l/e19adc/32.png) [@lucwarm](https://boards.straightdope.com/u/lucwarm)\ **Post date:** [July 24, 2001, 9:15pm UTC](https://boards.straightdope.com/t/stock-market-question/73665/3 "2001-07-24T21:15:38Z")
Well, there are some who hold that stock should be valued by taking your share of the companies future earnings and “discounting” them to present value. Of course, to do this, you have to know the company’s future earnings. (good luck!) But it’s still a useful technique for many investors. ---
**Author:** ![Jackknifed\_Juggernaut](https://avatars.discourse-cdn.com/v4/letter/j/9de053/32.png) [@Jackknifed\_Juggernaut](https://boards.straightdope.com/u/Jackknifed_Juggernaut)\ **Post date:** [July 24, 2001, 9:43pm UTC](https://boards.straightdope.com/t/stock-market-question/73665/4 "2001-07-24T21:43:39Z")
Technically, the value of a company is the net present value of its future free cash flows (or cash flows NOT related to its financing) MINUS the value of its debt PLUS any excess cash (cash not needed for operations). This number should be divided by the number of shares outstanding in order to arrive at its real stock price. Now, if you ever figure out a way to accurately predict a company’s future cash flows, please let me know. Its the market’s opinion of what these future cash flows will be that determine the stock price. As opinions change, so does the company’s “value”. In case you were wondering, the net present value is obtained by using a discount rate that is commensurate with the riskiness of a company. Specifically, the portion of its risk that is related to the riskiness of the entire market. I’m sure that most people don’t care about that last part, but its always important to be specific in these situations in case somebody uses it against you later. Also, I wouldn’t want anybody failing any exams based on incomplete information. ---
**Author:** ![Opengrave](https://avatars.discourse-cdn.com/v4/letter/o/919ad9/32.png) [@Opengrave](https://boards.straightdope.com/u/Opengrave)\ **Post date:** [July 24, 2001, 9:47pm UTC](https://boards.straightdope.com/t/stock-market-question/73665/5 "2001-07-24T21:47:53Z")
There are several valuation models, each with strengths and weaknesses. As a quick shot-from-the-hip I found [http://teachmefinance.com/](http://teachmefinance.com/). Look under CAPM, Security Market Line, and Stock Valuation. NP: **OZZY** – _Diary of a Madman_ ---
**Author:** ![cynic](https://avatars.discourse-cdn.com/v4/letter/c/e95f7d/32.png) [@cynic](https://boards.straightdope.com/u/cynic)\ **Post date:** [July 25, 2001, 3:58am UTC](https://boards.straightdope.com/t/stock-market-question/73665/6 "2001-07-25T03:58:51Z")
The most effective method for determining a stock’s underlying value is to look at its current price (unless you have information no one else has). ---
**Author:** ![Sublight](https://avatars.discourse-cdn.com/v4/letter/s/439d5e/32.png) [@Sublight](https://boards.straightdope.com/u/Sublight)\ **Post date:** [July 25, 2001, 10:31am UTC](https://boards.straightdope.com/t/stock-market-question/73665/7 "2001-07-25T10:31:09Z")
[The Motley Fool](http://www.fool.com/school.htm?ref=G02A06) has a method of evaluating small companies that involves taking the company’s earnings projections and comparing the earnings growth rate to the companies price/earnings (P/E) ratio. Since a company’s stock price is, in theory, determined by what investors think the future earnings will be, the growth rate (as a percentage) and the P/E ratio should be equal. A company whose growth rate is significantly less than its P/E ratio would be considered overvalued (a bad buy), while one that whose growth rate is significantly more would be undervalued (a good buy). They go into a fair amount of detail about the limitations of this method (doesn’t work well with big companies, financial companies or cyclical industries) and caution that if the difference between growth rate and P/E seems extreme, there’s probably a good reason for it. –sublight. ---
**Author:** ![yabob](https://sea3.discourse-cdn.com/straightdope/user_avatar/boards.straightdope.com/yabob/32/2821_2.png) [@yabob](https://boards.straightdope.com/u/yabob)\ **Post date:** [July 25, 2001, 4:27pm UTC](https://boards.straightdope.com/t/stock-market-question/73665/8 "2001-07-25T16:27:36Z")
The Motley Fool’s “fool school” is a pretty good primer, I think. It’s certainly a paragon of sanity compared to a lot of what’s out there, though you shouldn’t take them as gospel. It’s noteworthy that they consistently say you shouldn’t be investing in the stock market with money you’re going to need within the next 5 years. Don’t trust ANYBODY’s “get rich quick” methods. The Fool’s entertaining, besides. Their “fool ratio” is more commonly known as the PEG ratio, and some quote sites will give it to you - for instance, the yahoo quote pages provide it for you under the “research” link on a particular stock. Of course, the kicker is that it’s only as valid as the future earnings estimates you use. As indicated by other posters, THAT’s the real trick. Sometimes I think the tool of choice for some of these analysts making the estimates is a ouija board.