If the market is efficient, what happens to the intrinsic value (proper price) and the price at which the market is pricing the stock out at?
Why?
My ANswer:
Won't pricing adjust immediately because the information moves so fast to the analysts?
EY
There are a whole host of reasons why the daily market price of a stock will fluctuate around a stock's "proper" or "intrinsic" price.
First, is the definition or determination of a stock's "proper" price. A stock's price is not based on the company's current performance or current earnings per share, but on the company's expected FUTURE performance. Since nobody (that i am aware of at least) has perfect foresight, expected performance is a weighted average of all relevant investor's expectations and assumptions about the future. And views about the future are different. Further, these collective expectations will change as new information is received. So, bottom line, the intrinsic value of a share of stock is an amorphous number.
Which brings me to the market price or the price of a share of stock right now. Markets are efficient, but they are not perfectly efficient. Buying and selling of stock has transaction costs. In addition, just researching or monitoring a stock or a set of stocks has huge transaction costs. (Reading one prospectus or an analysts report is as dry as sand. Reading a 100+ would be a nightmare) So, many investors, knowingly enter the market with imperfect information.
New information takes time to digest. Markets are constantly receiving information of all types from jillions of sources. Even the best analyst needs time to separate the wheat from the chaff, the relevant information from the spurious,
Every day, the market has some people who are forced or required to sell; e.g., for personal reasons, they need to raise cash and will sell stock to do so. Similarly, the market has some people who are required to buy (e.g., a retirement fund manager who has just received new funds to invest in the market.)
Risk and risk aversion is another reason why the market price may fluctuate away from the "intrinsic" price. Risk-neutral people tend to be Bulls, risk-adverse people tend to be Bears.
With more time, I could think up even more reasons why markets prices fluctuate. But the key is that they fluctuate around your "intrinsic" price.
I hope this helps.
Economyst
Good to hear from you again! Thanks, as always for yor hwlp, you explained this alot better than the book did. Much appreciated!
Ed
In an efficient market, the intrinsic value, or proper price, of a stock is believed to be reflected in the market price. This means that the market price accurately reflects all available information and is in line with the stock's true worth.
In an efficient market, the process of price discovery is quick and accurate. As soon as new information becomes available, analysts and investors react by adjusting their valuations and trades accordingly. This leads to an immediate and efficient adjustment of prices to reflect the new information. Therefore, if new information emerges that affects the intrinsic value of a stock, the market price will quickly adjust to incorporate that change.
The speed at which information is disseminated and analyzed by market participants is a key factor in maintaining market efficiency. In today's digital age, information travels quickly, and analysts have access to a vast amount of data. This allows them to evaluate the new information and adjust their valuations accordingly. As a result, stock prices tend to reflect the most up-to-date information, and any deviations from the intrinsic value are quickly corrected.
Overall, in an efficient market, the pricing of stocks aligns closely with their intrinsic value, and any discrepancies are quickly eliminated due to the fast and accurate transmission of information.