How to Valuate Stocks

A stock represents a fractional ownership position in the company that issues it. Owners receive dividend payments and voting rights. The value of a stock can change based on a variety of factors, including investor sentiment and news events. There are also a number of ways to categorize stocks, allowing investors to compare them relative to each other.

The stock market is a global marketplace for the trading of shares, representing a significant portion of the world economy. Companies issue stocks to raise capital, and the price of those shares can fluctuate based on supply and demand. This means that a stock may be over- or under-valued, depending on investor sentiment and the overall performance of the market.

There are a few different ways to calculate a stock’s intrinsic value, and each method has its own advantages and disadvantages. The most objective approach uses a mathematical model that takes into account all of the qualitative and quantitative factors that affect a stock’s worth at a given point in time. This approach is generally viewed as being most appropriate for professional investors, who can afford to devote the time and resources required to perform this type of analysis.

Other analysts take a more subjective, technical approach to valuation. They analyze the market’s appraisal of a stock’s worth by looking at the supply and demand for the stock, along with broader economic trends. The more people want to buy a stock, the higher its price will be; when there are more sellers than buyers, the price will drop. The stock market’s appraisal of a stock’s value tends to be more volatile, and it is often driven by speculation activity as well as by reaction to political and economic news releases and events.

Another way to categorize stocks is by their size, which is usually referred to as market capitalization. Large-cap stocks represent the largest companies, while mid-cap and small-cap stocks represent successively smaller companies. These categories allow investors to compare and contrast the growth potential of companies, as well as their level of risk.

Stocks can be grouped based on their sector, as well. This allows investors to diversify their portfolios by investing in a wide range of industries, and it can be useful in minimizing risk when the economy is weak. For example, stocks in sectors like information technology and consumer discretionary may be more sensitive to changes in the economy than those in utilities, healthcare or energy.

There are also various ways to classify companies by their business models and history. For example, value stocks are often mature companies that have become industry leaders and don’t have much room to grow; they can be less volatile than growth stocks. However, all stocks can offer potentially high returns, and they are an important part of a well-diversified investment portfolio. NerdWallet writers are subject matter experts who use primary, trustworthy sources such as peer-reviewed studies, government websites, academic research and interviews with industry experts to inform our work. Our articles are fact-checked and edited for clarity and accuracy.