Price is always an approximation; any precision is an illusion.

Price is a number that is often a delusion and nearly always a distraction.

The price attached to a stock or other financial asset changes in a frantic hum, often several thousand times a day, causing corrosive intellectual damage.

It may have little relation to VALUE, although it is more interesting and keeps most of the financial media quite busy.

The continual flux and spurious precision of price will cast an illusion of certainty, fooling many investors into thinking that the exact worth of a stock is knowable at any given moment.

That tricks investors into believing that even tiny changes in price can have great significance when, in fact, the constant twitching of stock prices is nothing but statistical noise.

Under the illusion of certainty created by PRICE, investors forget that VALUE is approximate and that it barely changes on even a monthly time scale.

Investors who fixate constantly on price will always end up trading too much and overreacting to other people's mood swings; only those who focus on ascertaining value will achieve superior returns in the long run.



Example:

If asked what your house is worth, would you respond, "$237,432.17?"  Of course not.

You know perfectly well that nobody, including you, knows what your house is worth to the nearest thousand dollars, let alone to the nearest penny or fraction of a penny. 

Instead, you would say, "Between $200,000 and $250,000 maybe."



With stocks and other financial assets, price is also an approximation; any precision is an illusion.

Intrinsic Value - A key to value investing

https://blog.elearnmarkets.com/how-to-calculate-intrinsic-value/

There is a bit of concern regarding the calculation of intrinsic value about its subjective nature despite the huge popularity. Different people come out with different intrinsic value for the same stock. Anyways the calculation of intrinsic value helps in determining the attractiveness of a stock.

Just like Warren Buffet said that he uses the following criteria to invest in stocks-

a. Business which he understands
b. Run by competent and able management.
c. With long-term focus
d. Attractively priced

He further adds

We usually can identify a small number of potential investments meeting requirements (1), (2) and (3), but (4) often prevents action.

However, many a time when a business passes all tests, it’s better to avoid the stock if the valuations are not attractive as compared to its intrinsic value.

The Basics of Share Valuation

You can only make money from investing in shares of good quality companies if you pay the right price for the shares.

A common mistake by investors is to think that buying quality companies is all that matters and the price paid for the shares is irrelevant.

Paying too high a price for a share is one of the biggest risks that you can take as an investor.

It is just as bad as investing in a poor-quality company in the first place.

The key to successful long-term investing is buying good companies at good prices.



Valuation

The price of a share is crucial to your long-term investing success.

You will need to learn how to value the shares of companies and set target prices for buying and selling them.

The valuation of shares can become a very complicated exercise.

There are lots of books out there on this subject and many make the process seem difficult to understand.

The good news is that it doesn't have to be this way.

Valuing shares is not a precise science: you only need to be roughly right and err on the side of caution.

The place to start is looking at the fair value of a share.



The fair value of a share

Professional analysts and investors spend lots of time trying to work out how much a share of a company is really worth.

To do this they need to estimate how much free cash flow the company will produce for its shareholders for the rest of its life and put a value on that in today's money, which is known as a present value.

This approach is known as a discounted cash flow (DCF) valuation.

There are three steps to doing a DCF valuation:

1.  Estimate free cash flow per share for a period of future years.
Most analysts would probably try to forecast 10 years of future free cash flows.

2.  Choose what interest rate you want to receive in order to invest in the shares.
Shares are risky investments - more risky than savings accounts and most bonds - and so people demand to receive a higher interest rate in order to invest in them.

3.  Estimate what the value of the shares might be in 10 years' time and give that a value in today's money.
This is the terminal value and it stops you having to estimate free cash flows forever.  

Market Value versus Intrinsic Value

Market Value

The market value or market price of the asset is the price at which the asset can currently be bought or sold.  

It is determined by the interaction of demand and supply for the security in the market.


Intrinsic Value

Intrinsic value or fundamental value is the value of the asset that reflects all its investment characteristics accurately.

Intrinsic values are estimated in light of all the available information regarding the asset; they are not known for certain



Efficient Market

In an efficient market, investors widely believe that the market price reflects a security's intrinsic value.


Inefficient Market

On the other hand, in an inefficient market, investors may try to develop their own estimates of intrinsic value in order to profit from any mispricing (difference between the market price and intrinsic value).

Calculating Intrinsic Value

Free Cash Flow of Firm

FCFF = CFO - Capex
Enterprise Value = FCFF / WACC
Enterprise Value = Equity Value + Net Debt
Equity Value = Enterprise Value - Net Debt


Free Cash Flow of Equity

FCFE = CFO - Capex + Net Debt
Equity Value = FCFE / Required rate of return on equity


Equity Value = Intrinsic Value


Investors compare this Equity Value to the Market Value in their investing.

Market Value > Equity Value = Overvalued
Market Value = Equity Value = Fair Value
Market Value < Equity Value = Undervalued



Additional Notes:

Assuming there is no preferred stock outstanding:

Interest*(1–t) is the firm's after-tax interest expense

If company has zero debt, its FCFF = FCFE

Using Free Cash Flow to Equity to derive the Equity or Intrinsic Value of a Stock

Free cash flow to equity

From Wikipedia, the free encyclopedia

In corporate finance, free cash flow to equity (FCFE) is a metric of how much cash can be distributed to the equity shareholders of the company as dividends or stock buybacks—after all expenses, reinvestments, and debt repayments are taken care of. Whereas dividends are the cash flows actually paid to shareholders, the FCFE is the cash flow simply available to shareholders.^[1][2] The FCFE is usually calculated as a part of DCF or LBO modelling and valuation. The FCFE is also called the levered free cash flow.

Contents

  [hide] 

• 1Basic formulae
• 2FCFF vs. FCFE
• 3Negative FCFE
• 4Use
• 5References
• 6External links

Basic formulae[edit]

Assuming there is no preferred stock outstanding:

${\displaystyle FCFE=FCFF+Net\ Borrowing-Interest*(1-t)}$

where:

• FCFF is the free cash flow to firm;
• Net Borrowing is the difference between debt principals paid and raised;
• Interest*(1–t) is the firm's after-tax interest expense.^[3]

or

${\displaystyle FCFE=NI+D\&A-Capex-\Delta WC+Net\ Borrowing}$

where:

• NI is the firm's net income;
• D&A is the depreciation and amortisation;
• Capex is the capital expenditure;
• ΔWC is the change in working capital;
• Net Borrowing is the difference between debt principals paid and raised;
• In this case, it is important not to include interest expense, as this is already figured into net income.^[4]

FCFF vs. FCFE[edit]

• Free cash flow to firm (FCFF) is the cash flow available to all the firm’s providers of capital once the firm pays all operating expenses (including taxes) and expenditures needed to support the firm’s productive capacity. The providers of capital include common stockholders, bondholders, preferred stockholders, and other claimholders.
• Free cash flow to equity (FCFE) is the cash flow available to the firm’s common stockholders only.
• If the firm is all-equity financed, its FCFF is equal to FCFE.

Negative FCFE[edit]

Like FCFF, the free cash flow to equity can be negative. If FCFE is negative, it is a sign that the firm will need to raise or earn new equity, not necessarily immediately. Some examples include:

• Large negative net income may result in the negative FCFE;
• Reinvestment needs, such as large capex, may overwhelm net income, which is often the case for growth companies, especially early in the life cycle.
• Large debt repayments coming due that have to be funded with equity cash flows can cause negative FCFE; highly levered firms that are trying to bring their debt ratios down can go through years of negative FCFE.
• The waves of the reinvestment process, when firms invest large amounts of cash in some years and nothing in others, can cause the FCFE to be negative in the big reinvestment years and positive in others;^[5]
• FCFF is a preferred metric for valuation when FCFE is negative or when the firm's capital structure is unstable.

Use[edit]

There are two ways to estimate the equity value using free cash flows:

• Discounting free cash flows to firm (FCFF) at the weighted average cost of capital (WACC) yields the enterprise value. The firm’s net debt and the value of other claims are then subtracted from EV to calculate the equity value.

Enterprise Value EV = FCFF/WACC

Enterprise Value EV = Equity Value + net Debt

Equity Value = Enterprise Value EV - net Debt

• If only the free cash flows to equity (FCFE) are discounted, then the relevant discount rate should be the required return on equity. This provides a more direct way of estimating equity value.

Equity Value = FCFE/required return on equity

• In theory, both approaches should yield the same equity value if the inputs are consistent.

Notes:

Equity Value = Intrinsic Value of the Company

FCFF / WACC = Enterprise Value
Enterprise Value = Equity Value + Net Debts
Equity Value = Intrinsic Value of the stock = Enterprise Value - Net Debts

FCFE = CFO - Capex + Net Debts
Equity Value = Intrinsic Value of the stock = FCFE/required rate of return on equity
Equity Value < Market Value = Overvalued

Equity Value = Market Value = Fair Value
Equity Value > Market Value = Undervalued

https://en.wikipedia.org/wiki/Free_cash_flow_to_equity

Equity Securities and Company Value (Intrinsic Value of a company)

Book values and ROE do help analysts evaluate companies, but they cannot be used as the primary means to determine a company's intrinsic value.

Intrinsic value refers to the present value of the company's expected future cash flows.

Intrinsic value can only be estimated as it is impossible to accurately predict the amount and timing of a company's future cash flows.

Astute investors aim to profit from differences between market prices and intrinsic values.

A Dividends-and-Earnings (D&E) Approach - Finding the Value of Non-Dividend-Paying Stocks

What about the value of a stock that does not pay dividends and is not expected to do so for the foreseeable future?

The D&E approach can be used.

Value of a share of stock
= Present value of future dividends + Present value of the price of the stock at the date of sale.

Using the above equation, simply set all dividend to 0.  

The computed value of the stock would come solely from its projected future price.

The value of the stock will equal the present value of its price at the end of the holding period.



Example:

Stock XYZ pays no dividends.
Investment period 2 year holding period.
Estimates this stock to trade at around $70 a share at end of this period.
Required rate of return 15%.

Using a 15% required rate of return, this stock would have a present value of
= $70 / (1.15^2)
= $52.93

This value is the intrinsic value or justified price of the stock.

So long as it is trading for around $53 or less, it would be a worthwhile investment candidate.

A Dividends-and-Earnings (D&E) approach to Stock Valuation

A Dividend-and-Earnings approach

One valuation procedure that is popular with many investors is the so-called dividends-and-earnings (D&E) approach, which directly uses future dividends and the future selling price of the stock as the relevant cash flows.

The value of a share of stock is a function of the amount and timing of future cash flows and the level of risk that must be taken on to generate that return.

The D&E approach (also known as the discounted cash flow or DCF approach) conveniently captures the essential elements of expected risk and return and does so in a present value context.


Value of a share of stock
= Present value of future dividends + Present value of the price of the stock at the date of sale.



The D&E estimates the future stock stock price by multiplying future earnings times a P/E ratio.

Because the D&E calculation does not require a long-run estimate of a stock's dividend stream, it works just as well with companies that pay little or nothing in dividends as it does with stocks that pay out a lot of dividends.



Finding a viable P/E multiple is critical in the D&E approach

Using the D&E valuation approach, we focus on projecting 

• future dividends and 
• share price behaviour 

over a defined, finite investment horizon.

Especially important in the D&E approach is finding a viable P/E multiple that you can use to project the future price of the stock.

This is a critical part of this valuation process because of the major role that capital gains (and therefore the estimated price of the stock at its date of sale) play in defining the level of security returns.

Using market or industry P/E ratios as benchmarks, you should establish a multiple that you feel the stock will trade at in the future.

The P/E multiple is the most important (and most difficult) variable to project in the D&E approach.



Estimates required

Estimate its future dividends
Estimate its future earnings per share
Estimate a viable P/E multiple
Estimate its future price ( = P/E multiple x future earnings per share)
Estimate your required rate of return

Using the above estimates, this present value based model generates a justified price based on estimated returns.

You want to generate a return that is equal to or greater than your required rate of return.




Example

Company ABC
Our investment horizon - 3 years
Forecasted annual dividends  Yr 1 $0.18       Yr 2 $0.24      Yr 3  $0.28
Forecasted annual EPS           Yr 1 $3.08       Yr 2  3.95       Yr 3  $4.66
Forecasted P/E ratio                Yr 1 20.0         Yr 2 20.0        Yr 3  20.0
Share price at year end of        Yr 1 $61.60     Yr 2 $75.06    Yr 3  $93.20

Given the forecasted annual dividends and share price, along with a required rate of return of 18%, the value of Company ABC stock is:

Value of a share of stock
= Present value of future dividends + Present value of the price of the stock at the date of sale.

Value
= {[$0.18/(1.18)] + [$0.24/(1.18^2)] + [(0.28/(1.18)^3]}    +     [$93.20/(1/18^3)]
= {$0.15 + $0.17 + $0.17}    +    $56.72
= $57.22

According to the D&E approach, Company ABC's stock should be valued at about $57 a share.


Comments on the above example:

1.  Assuming our projections hold up and given that we have confidence in the projections, the present value figure computed here means that we would realize our desired rate of return of 18% so long as we can buy the stock at no more than $57 a share.

2.  If Company ABC is currently trading around $41, we can conclude that the stock at present price is an attractive investment.  Because we can buy the stock at less than its computed intrinsic value, we will earn our required rate of return and then more.

3.  Note:  Company ABC would be considered a highly risky investment, if for no other reason than the fact that nearly all the return is derived from capital gains.  Its dividends alone account for less than 1% of the value of the stock.  That is only 49 cents of the $57.22 comes from dividends.

4.  If we are wrong about EPS or the P/E multiple, the future price of the stock would be way off the mark and so too, would our projected return.

Why understanding fundamental analysis is important for investing in stocks?

Fundamental analysis:

Why understanding FA is important? 

FA cannot offer you the magic keys to sudden or instant wealth. If that were true, the Professors of Finance will all be fabulously rich! What FA can do is to provide sound principles for formulating a successful long-range investment program. FA are proven methods that have been used by millions of successful investors.

The motivation for investing in stocks is obvious. It is to watch your money grow.

Why then, for every story of great success in the market, there are dozens more that don't end so well!!!!

More often than not, most of those investment flops can be traced to:

1. Bad timing
2. Poor planning
3. Failure to use common sense in making investment decisions.



Intrinsic Value

The entire concept of stock valuation is based on the idea that all securities possess an intrinsic value that their market value will approach over time.

Security analysis consists of gathering information, organizing it into a logical framework, and then using the information to determine the intrinsic value of common stock.

Given a rate of return that's compatible with the amount of risk involved in a proposed transaction, intrinsic value provides a measure of the underlying worth of a share of stock. It provides a standard for helping you judge whether a particular stock is undervalued, fairly priced or overvalued.



Main message

The aims of fundamental analysis are to determine the asset's intrinsic value and its future growth potential.

DCF analysis is the most popular valuation methodology today. Growth (or lack of it) is an integral to a valuation exercise.

Discounted Cash Flow analysis to determine Intrinsic Value

The value of a business, a share of stock, or any other productive asset is the present value of its future cash flows.

Discounted cash flow (DCF) analysis (intrinsic value principle of John Burr Williams) is the most popular valuation methodology today.

Its popularity, however, hides the important reality that value is easier to define than to measure (easier said than done).

The tools Graham (margin of safety principle) and Fisher (business franchise principle) developed remain crucial in this exercise.



Value stocks versus Growth stocks:  this distinction has limited difference.

One hazard of undue reliance on DCF analysis is a temptation to classify stocks as either value stocks or growth stocks.  It is a distinction with limited difference.

Value a business (or any productive asset) requires estimating its probable future performance and discounting the results to present value.

The probable future performance includes whatever growth (or shrinkage) is assumed.

So growth (or lack of it) is integral to a valuation exercise.

Investing is the deliberate determination that one pays a price lower than the value being obtained.

Only speculators pay a price hoping that through growth the value rises above it.



Conventional Value Investing = low P/E, low P/BV and high DY companies

Value investing is conventionally defined as buying companies bearing low ratios of price-to-earnings, price-to-book value, or high dividend yields.

But these metrics do not by themselves make a company a value investment.  It is not that simple.

Nor does the absence of such metrics prevent an investment from bearing a sufficient margin of safety and qualitative virtues to justify its inclusion in a value investor's portfolio.




Growth doesn't equate directly with value either.

Growing earnings can mean growing value.

But growing earnings can also mean growing expenses, and sometimes expenses growing faster than revenues.

Growth adds value only when the payoff from growth (revenue) is greater than the cost of growth (expenses).

A company reinvesting a dollar of earnings to grow by 99 cents is not helping its shareholders and is not a value stock, though it may be a growth stock.




Read also:

Value Vs Growth

http://klse.i3investor.com/blogs/kcchongnz/45456.jsp

What drives the return of your stock investment, Growth or Value?

http://klse.i3investor.com/blogs/kcchongnz/81690.jsp

“In our opinion, the two approaches (value and growth) are joined at the hip: Growth is always a component in the calculation of value, constituting a variable whose importance can range from negligible to enormous and whose impact can be negative as well as positive…In addition, we think the very term “value investing” is redundant. What is “investing” if it is not the act of seeking value at least sufficient to justify the amount paid?”      Warren Buffett Letters to investor, 1992.

The Five Rules for Successful Stock Investing 11

Valuation – Intrinsic Value

The value of a stock is equal to the present value of its future cash flows.

Companies create economic value by investing capital and generating a return. Some of that return pays operating expenses, some gets reinvested in the business, and the rest is free cash flow. We care about free cash flow because that's the amount of money that could be taken out of the business each year without harming its operations. A firm can use free cash flow to benefit shareholders in a number of ways. It can pay a dividend, which essentially converts a portion of each investor's interest in the firm to cash. It can buy back stock, which reduces the number of shares outstanding and thus increases the percentage ownership of each shareholder. Or, the firm can retain the free cash flow and reinvest it in the business.

These free cash flows are what give the firm its investment value. A present value calculation simply adjusts those future cash flows to reflect the fact that money we plan to receive in the future is worth less than the money we receive today. Why are future cash flows worth less than current ones? First, money that we receive today can be invested to generate some kind of return, whereas we can't invest future cash flows until we receive them. This is the time value of money. Second, there's a chance we may never receive those future cash flows, and we need to be compensated for that risk, called the "risk premium".

Value is determined by the amount, timing, and riskiness of a firm's future cash flows, and these are the three items you should always be thinking about when deciding how much to pay for a stock.

[...] the present value of a future cash flow in year n equals CFn/(1 + discount rate)^n.

If you really want to succeed as an investor, you should seek to buy companies at a discount to your estimate of their intrinsic value. Any valuation and any analysis is subject to error, and we can minimize the effect of these errors by buying stocks only at a significant discount to our estimated intrinsic value. This discount is called the margin of safety [...].

Putting It All Together

http://books.danielhofstetter.com/the-five-rules-for-successful-stock-investing/

Valuation methods

Even the best investing strategies won't help you if you don't understand the value of the investments you are making.

Without assessing the future potential of your investments, you are simply gambling by letting probability take over.

It is in the nature of investment valuation that the calculations of their value are mathematical.


Return on Investment (ROI)

This is the end result of how much money you make or lose on an investment.

ROI = (P - C) / C

P= current market price at which you sold the investment
C = cost of the investment - the price you paid for it.


Present Value

Present value is the value that an investment with known future value has at the present time.

PV = FV / [(1+r)^t]

FV= amount of money you will receive at the end of the investment's life
r= the rate of return you are earning on the investment during that time
t= the amount of time that passes (in years) between now and the end of the investment's life.

This is an extremely common calculation with bonds, since bonds are sold at the discounted rate (the present value), and you must estimate whether the market price of the bond is above or below the present value to determine whether the price is worth it.


Net Present Value (NPV)

Net present value is the sum of present values on an investment that generates multiple cash flows.

When calculating NPV, calculate the present values of each payment you will receive, and then add them together.



ABSOLUTE AND RELATIVE MODELS

The value of fixed-rate investments is easy because you have certainty regarding what you will earn.

The problems come when you start estimating the value of variable-rate investments, like stocks or derivatives.

There are many complicated methods of calculating variable-rate investments, but they fall into three categories:

Absolute
Relative, and
Hybrid


Absolute models

Liquidation value or intrinsic value

Absolute models are the most popular among investors who look for the intrinsic value of an investment, rather than attempting to benefit by trading on movements in the market.

Such models include calculations of the liquidation value of the company, often adjusted for growth over the next few years.

In other words, you start with what the company would be worth if you simply sold everything it has for the cash, then subtract the debt.

Of course, the value of companies changes over time, and the market price of stocks is often based on the future earning potential of the company, rather than its current earnings.

So, estimates of liquidation value start with the current liquidation value and then increase that value by a percentage consistent with their average past growth, or by some other estimate of their future growth.


Dividend Discount Model  (DDM)

For investors who prefer investments that yield dividends, the DDM is popular.

DDM is calculated by working out the NPV of future dividends.

If you estimate that dividends will grow over that period, simply subtract the growth rate from the rate of return in the NPV calculation.

NPV = Dividend / (R - g)

R= discount rate
g= growth rate

For dividend investors, if the NPV of the dividends is lower than the current market price per share of the stock, the stock is undervalued, making it a great deal.


Relative Models

Relative models are popular among traders, who invest based on short-term movements in the market because they allow them to compare the performance of various options.

Common tools in performing these comparative assessments use the financial statements of a company and include:

Price to earnings ratio (P/E)

This functions as an indicator of the price you are paying for the profits a company will earn for you, either as dividends or through the investment of retained earnings.

Return on equity (ROE) = Net Income / Shareholder Equity

This indicates the amount of money a company makes using the money shareholders have invested in the company.

Operating margin = Operating Income / Net Sales

This indicates how efficiently a company is operating.


These indicators are not calculations of company value, but indicators of the comparative performance of companies in which one might invest.



Hybrids

Absolute and relative models are combined to create hybrids that attempt to estimate the value of a stock by combining the intrinsic value of the company with how well it performs compared to other potential investments.

The Perfect Moment to Buy a Stock

Hi, 

I hope you've been enjoying my newsletter so far! 

You've been a subscriber for about a month now, so I would like to take this moment to really thank you for your support! I truly appreciate it, and I'm hoping I can continue to provide you with some excellent content that you can't get anywhere else, and keep you as a loyal subscriber for even longer. 

Today I will share with you how to identify the perfect moment to buy a stock, and it's probably different from what you expect. Why? Because it has little to do with timing, and more to do with the stock price in relation to the intrinsic value of a company. Let me explain. 

"Price is what you pay, value is what you get." 

There is a crucial difference between price and value, and the above quote by Warren Buffett captures this perfectly. If you want to sell your desk chair on eBay, you can ask any price for it you like. However, the value the buyer receives in return, a desk chair, remains exactly the same, regardless of the price you decide to ask. 

It's the same with stocks. A stock price says little about how much a stock, which is essentially a tiny slice of a business, is actually worth. Investors can ask any price they like, but this doesn't change the underlying business. This means it is possible for stock prices to deviate significantly from their intrinsic value, which is great, because exploiting mispriced stocks is what value investing is all about!

So what is the perfect time to buy a stock? 

Well, you first have to determine whether you are dealing with a financially healthy company. Secondly, using conservative inputs, you need to estimate the intrinsic value of a company to determine what a stock should realistically be worth. Is the stock trading at a price way below the intrinsic value you calculated? Sweet! Then this is the perfect time to buy. If not, put it on your watch list until it is finally cheap enough to get in. 

Timing the market, or trying to predict when a stock will move up or down in the short run, is impossible. You might get lucky a few times, but this strategy is doomed to fail in the long run, since prices can be extremely volatile, highly irrational and therefore 100% unpredictable. The only sound way to determine when to buy is to look at the stock price in relation to the intrinsic value of the underlying company. 

Don't worry if the price declines further after your initial investment, because now you can buy more of a wonderful company at an even lower price! You don't have to buy at the absolute bottom. You just have to buy it for a cheap enough price to make a more than handsome return. 

Now that you know when to buy a stock, you might be interested in learning when to sell. In episode #18 of my value investing podcast I cover the only three reasons to ever sell a stock. Here is a link for you below:
https://www.valuespreadsheet.com/investing-podcasts

Cheers, and all the best to you! 

Nick

Insist on value when you buy (Buy when EXTREMELY undervalued and Sell when EXTREMELY overvalued; with good resons)

A stock has three prices. It has:

1. a market price, 
2. a book value and 
3. an intrinsic value.

The market price is easy to understand. It is the last traded price at the end of a trading day. 

The book value is simply the net tangible asset (NTA) as shown in its balance sheet. 

The intrinsic value is the most difficult to calculate. I do not know of any formula for this. At most, it is only an estimation. 

You have to factor in many metrics such as barrier of entry, calibre of management, earnings potentials (present and future) growth prospects, patents, etc.


So, what should we do? 

For me, I make it simply. I look at the track record relative to its earnings, earnings growth and dividend yields. The higher these are, the higher the value. 

Buying a stock at high earnings per share (PE) is risky. Unless the forward PE is  expected be much lower, avoid stocks trading with high PE. (A PE of over 16 is too high for me.) 

To value a stock, here are some metrics or key ratios to consider: 

• EPS( earnings per share); 
• D/Y (dividend yield); 
• NTA (net tangible assets); 
• PEG (price to earnings growth); 
• NPM (net profit margin); 
• ROE (return on equity); 
• D/E (debt to equity ratio) 
• C/R (current ratio); 
• PCF (price to cash flow). 

One other thing to carefully consider is the core business of the company. Here, you need to think about barrier of entry, patents and competition.






When is the best time to sell a stock

Close to 100% of all stocks will at one time or another be selling at extremely high valuation that they should be sold. 

At other times, they will be selling at overly undervalued prices that they should be bought. 

We want to sell a stock when it is very much overvalued.

Understanding the value of a stock is crucial in this respect, and with the help of technical analysis, you have the advantage of the competitive edge.





Control your emotion

Taking action for action sake is a weakness that many people fail to control. Some people need to move in and out of the market often enough to overcome boredom.

They forget that transaction costs eat into their earnings.

Buy and sell with good reasons and not simply with intuition and the need for action.

Following the guidelines mention above will go a long way to help you to invest intelligently

How to Value a Stock in Order to Buy Long or Sell Short?

How to Value Stocks

Warren Buffett Intrinsic Value Calculation - A stock must be undervalued

"Intrinsic value can be defined simply: It is the discounted value of the cash that can be taken out of a business during its remaining life." - Warren Buffett

"As our definition suggests, intrinsic value is an estimate rather than a precise figure, and it is additionally an estimate that must be changed if interest rates mover or forecasts of future cash flows are revised. Two people looking at the same set of facts, will almost inevitably come up with at least slightly different intrinsic value figures." - Warren Buffett


"The cash that can be taken out of a business during its remaining life." - Warren Buffett

"In other words, the percentage change in book value in any given year is likely to be reasonably close to that year's change in intrinsic value." - Warren Buffett



@ 20.15 Finding intrinsic value of Disney (using MSN Money)

BuffettsBooks.com. calculator
http://www.buffettsbooks.com/intelligent-investor/stocks/intrinsic-value-calculator.html

Evaluating Quality first, then Price. Fair price is one associated with adequate return at acceptable risk.

1.   The most important task in buying a stock is to determine that the company is a good company in which to own stock for the long term.  (QUALITY)

2.  However, no matter how good the company, if the price of its stock is too high, it is not going to be a good investment.

3.  A stock price must pass two tests to be considered reasonable:
(i)  The hypothetical total return from the investment must be adequate - enough to contribute to a portfolio average of around 15% - sufficient to double its value every 5 years.  (REWARD).
(ii)  The potential gain should be at least 3x the potential loss.  (RISK)

4.  To complete these tasks, you have to have learned how to do the following:
(i)  Estimate future sales and earnings growth.
(ii)  Estimate future earnings.
(iii)  Analyze past PEs (Check the current PE with the average past PEs)
(iv)  Estimate future PEs.
(v)  Forecast the potential high and low prices.
(vi)  Calculate the potential return.
(vii)  Calculate the potential risk.
(viii)  Calculate a fair price.

5.  If you take each of these steps in 4(i) to 4(viii), cautiously and shun excesses, your actual results is likely to be as good or better than the forecast at least four out of the five times.

6.  And you will have a track record to rival any professional.

That's all folks!

Value investors consider the income statement and the balance sheet as sources of information concerning business value. These are superior to market-oriented tools such as the P/E ratio.

The most quoted metric in discussing common stocks is their ratio of price-to-earnings (P/E).  This states the relationship between what a stock costs and what benefit it produces.

Many people wrongly believe that value investing involves finding companies boasting low P/E multiples.

• But not all low P/E stocks are good investments, and not all high P/E stocks are bad investments.  
• Nor do value investors consider the P/E ratio as an insightful measure for valuation purposes, though it might be useful as a check against overpaying.  

Value investors resist the temptation to use P/E ratios as supplements to a traditional valuation analysis.  

• Value investors consider the income statement and the balance sheet as sources of information concerning business value.  
• These are superior to market-oriented tools such as the P/E ratio for two reasons.

1.  First, return on equity captures the full accounting picture, including debt and equity, whereas P/E severs earnings from the balance sheet.
2.  Second, return on equity is an intrinsic or internal valuation methodology, whereas P/E ratios are products of market or external or valuation processes.  

Market metrics tell value investors more than Graham's Mr. Market than about intrinsic value.