What is stock valuation, and why should you do it?
When you purchase shares, you become a part-owner of the company whose stock you have purchased. This means that before you buy shares, it makes sense that you understand the business you’re buying.
This means you need to delve into the business’s finances. This is what the term “due diligence” refers to. You are not investing if you do not understand what you are purchasing.
Your due diligence — the necessary research, in other words — is what differentiates a bet from an investment.
Determining a company’s financial health allows you to determine whether or not its stock price appropriately reflects its value. The stock market is seldom a perfect reflection of the value of the company’s trading shares.
After all, everyone in the market seeks ways to profit from futures trading. This means that a company’s stock might easily trade below or above the ‘actual’ worth of the company it represents.
This is where stock valuation becomes intriguing. The simplest indicator investors use when assessing a stock’s worth is the price to earnings ratio or P/E ratio.
The P/E ratio is calculated by dividing the current share price by the earnings per share earned by the company during the previous year. In general, the greater the P/E ratio, the more expensive a company’s shares may be. A lower P/E ratio, on the other hand, may imply that the market undervalues the shares in relation to the company’s overall health.
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