Maybe you like to buy a cup of coffee from your favorite café on your morning commute. You enjoy the taste, and the caffeine helps get your mind going. It’s the perfect start to your busy day, and so you’re happy to pay the 2.50 euros every time you visit.
One morning, the person behind the counter tells you that your usual now costs only two euros. The card reader on the counter tells you the same thing.
You receive the same amount of coffee. It’s as warm and caffeine-rich as ever.
The value of your morning coffee is the same as yesterday and the day before. Nothing has changed, apart from its price.
Would you opt out of buying your usual cup of coffee? I doubt it. The value of your coffee hasn’t changed, even if its price has.
If the price of a stock falls by 10%, most investors are likely to think that they should sell their shares. Their assumptions may also be corroborated by a technical analysis.
A technical analysis specialist would also likely recommend not buying that coffee for two euros, since, according to them, it is a bad purchase whose price is slated to fall even further.
The real value of a stock is based on the associated company’s business and the ability to earn money for the owners in the future.
If there have been no detrimental changes to the company’s business model, the value of their stock has not decreased.
The value of a stock cannot be measured by its price.
The value of a company is not determined by its share price.
The value of a stock is not linked to its price, but the price of a stock is dependent on its value in the long run.
While the stock market can be fairly volatile in the short term, it will be able to determine the true performance of the companies in it in the long term.
Contrary to popular belief, the tail does not wag the dog, and the money-making capacity of a company is what determines its share price in a long term.
Therefore we want to be long term shareholders of quality businesses even in times when stock prices fluctuate dramatically.
Founder of the Sifter Fund and
chairman of the Investment Committee