How to Measure True Value Of Stocks? - Super Business Manager

The fluctuation of stock prices captures the tension between market reality, human psychology, and potential future outcomes. Your three possibilities perfectly mirror the core philosophical and mathematical approaches to security analysis.

To measure the true value of a stock, financial analysts and investors generally look at these three frameworks: Intrinsic Value (determine as it is), Subjective/Relative Value (determine as you see it), and Market Efficiency/Option Pricing (undetermined until you call it).

1. Intrinsic Value (Determine As It Is)

This approach assumes that a business has an underlying, objective value based entirely on its fundamentals—its cash generation, assets, and growth. If the market price is lower than this value, the stock is cheap; if it is higher, it is expensive.

The primary tool for this is the Discounted Cash Flow (DCF) model. It operates on the principle that a stock is worth the sum of all its future cash flows, discounted back to today’s money.

$IV = \sum_{t=1}^{n} \frac{CF_t}{(1 + r)^t} + \frac{TV}{(1 + r)^n}$

Where:

$IV$ = Intrinsic Value
$CF_t$ = Cash flow in year $t$
$r$ = Discount rate (required rate of return)
$TV$ = Terminal value (the estimated value of the company beyond the projection period)

Real-World Example

When Berkshire Hathaway heavily invested in Apple in 2016, Warren Buffett looked past the daily price noise. He treated Apple not as a tech stock prone to wild swings, but as a consumer staples giant with massive, predictable free cash flows and sticky customer loyalty. He calculated the intrinsic value based on steady cash generation and bought in because the market price was significantly lower than his “as it is” calculation.

Can Intrinsic Value be determined? Remember that intrinsic value is prospective yield. It’s a theoretical price that cannot be calculated or observed, but it does exist.

2. Relative & Subjective Value (Determine As You See It)

This approach argues that value is relative. A stock is worth what someone is willing to pay for it compared to available alternatives. Investors use multiples to determine value based on their specific narrative, risk tolerance, and growth expectations.

Common metrics include:

Price-to-Earnings (P/E) Ratio: Market Value per Share / Earnings per Share (EPS)
Price-to-Sales (P/S) Ratio: Useful for fast-growing companies that are not yet profitable.
EV/EBITDA: Enterprise Value divided by Earnings Before Interest, Taxes, Depreciation, and Amortization, commonly used in corporate acquisitions to evaluate operational performance.

Real-World Example

Consider Tesla during its rapid rise in 2020 and 2021. Traditional value investors looked at its high P/E ratio and declared it wildly overvalued compared to legacy automakers like Toyota or Ford. Growth investors, however, saw a robotics, energy, and AI company. They valued it based on future market dominance. The “true value” shifted entirely based on the lens—or narrative—the investor chose to view it through.

3. Contingent Value & Market Discovery (Undetermined Till You Call It)

This framework aligns with the Efficient Market Hypothesis (EMH) and modern options theory. It suggests that a stock does not have a single static value waiting to be discovered. Instead, it exists in a state of probabilities until an event occurs or a transaction is executed (when you “call it”).

Value is dynamic and incorporates all known information instantly. True value changes the moment a new variable appears, such as an earnings surprise, a macroeconomic shift, or a regulatory change.

Real-World Example

When Microsoft announced its intent to acquire Activision Blizzard for 68.7 billion dollars, Activision’s stock price instantly jumped, but it stayed below the actual acquisition price per share for months. Why? Because the true value was undetermined until global antitrust regulators “called it” by approving the deal. The stock price reflected the shifting probability of the deal closing successfully or collapsing.

The Investor’s Reality: Stock market fluctuations happen because these three forces constantly clash. Quantitative analysts try to calculate the stock “as it is,” momentum traders price it “as they see it,” and unexpected corporate developments constantly reset the value “when they call it.”