books about online stock trading, forex, futures, stock investing, market, trading systems
Conclusion
Back to contents page

Every approach to equity investing has its own warts. Being disciplined about valuation may mean that you'll miss out on some great opportunities because some companies wind up performing better for longer periods of time than almost anyone would have anticipated. Companies such as Microsoft and Starbucks, for example, looked very pricey back in their heyday, and it's unlikely that many Investors who were very strict about valuation would have bought them early in their corporate lives. Why? Because both firms managed to fend off their competitors for very long periods of time—much longer than a conservative estimate would have given them credit for.

Being disciplined about valuation would have meant missing these opportunities, but it also would have kept you out of many investments that were priced like the next Microsoft, but which wound up disappointing investors in a big way. Think about how many software firms have fallen by the wayside over the past decade, for example, or when bagel stocks were priced as if they were going to all become the next McDonald's back in the early 1990s. Although we acknowledge that some high-potential companies are worth a leap of faith and a high valuation, on balance, we think it's better to miss a solid investment because you're too cautious in your initial valuation than it is to buy stocks at prices that turn out to be too high.

After all, the real cost of losing money is much "worse than the opportunity cost of missing out on gains. That's why the price you pay is just as important as the company you buy.

Investor's Checklist: Valuation — Intrinsic Value

Estimating an intrinsic value keeps you focused on the value of the business, rather than on the price of the stock.

Stocks are worth the present value of their future cash flows, and that value is determined by the amount, timing, and riskiness of the cash flows.

A discount rate is equal to the time value of money plus a risk premium.
The risk premium is tied to factors like the size, financial health, cyclicality, and competitive position of the firm you're evaluating.

To calculate an intrinsic value, follow these five steps: Estimate cash flows
for the next year, forecast a growth rate, estimate a discount rate, estimate
a long-run growth rate, and add the discounted cash flows to the perpe­
tuity value.

Smarter trading The art of day trading Trading Chaos Sane Investing In An Insane World
Beat The Odds In Forex Trading