A stock’s intrinsic value, rooted in its business fundamentals, is not always the same as its current market price — although some believe otherwise. Investors assign values to stocks because it helps them decide if they want to buy them, but there is not just one way to value a stock.
On one end of the spectrum, active investors — those who believe they can develop and execute investing strategies that outperform the broader market — value stocks based on the belief that a stock’s intrinsic value is wholly separate from its market price. Active investors calculate a series of metrics to estimate a stock’s intrinsic value and then compare that value to the stock’s current market price.
Passive investors subscribe to the efficient market hypothesis, which posits that a stock’s market price is always equal to its intrinsic value. Passive investors believe that all known information is already priced into a stock and, therefore, its price accurately reflects its value. Most adherents to the efficient market hypothesis suggest simply investing in an index fund or exchange-traded fund (ETF), rather than taking on the seemingly impossible task of outsmarting the market.
