I concur with the statement that says “Before buying or selling stock, an investor should be able to determine its value.” Notably, it is essential for an investor to understand the true value of a company based on its stock value to facilitate smart buying and selling in the market. As an investor, I agree that there are a number of aspects one has to look at to determine the true value of a company. Indeed, the stock value is an essential factor. Thus, through the use of stock valuation, an investor can determine the value of a stock by predicting the market price. Accordingly, the three methods of stock valuation are Discounted Cash Flow Analysis, Dividend Discounted Model and Earned Multiple Valuation approaches (Arkan, 2016). From the three methods discussed in the article, I vouch for the Earning Multiple Valuation approaches. To determine the value of a stock using this method, an investor needs to estimate the growth of the earning per share of a number of years. The investor can place his theoretical earnings multiple on the earning per share for the period. After that, a comparison of the theoretical stock price to that of the current stock price that would give a calculation for the expected rate of return for the period.
Notably, this approach is one of the quickest ways of knowing how highly valued a stock is by looking at the price-to-earnings ratio (EPS) (Arkan, 2016). For example, if a stock is $ 100 and the EPS was $5, then the earning multiple is 40. The stock price is in dollars, and the EPS is in dollar/year so that the earnings multiple of 40 is in years. This means it will take 20 tears of 4$ each to get $100. Nevertheless, to determine the intrinsic fair stock price for a company, based on future profitability and rate of return, other valuation methods such as Discounted Cash Flow Analysis and Dividend Discounted Model are effective. Overall, an investor can apply these three methods to determine which stocks will have the potential for growth in the future.
Arkan, T. (2016). The importance of financial ratios in predicting stock price trends: A case study in emerging markets. Finance, Rynki Finansowe, Ubezpieczenia, 79, 13-26.