Question

Benjamin Graham, the father of value investing, once said, "In the short run, the market is a voting machine, but in the long run, the market is a weighing machine." In this quote, Benjamin Graham was referring to the key difference between the "price" and the "value" of a security.In November 2006, Citigroup’s stock (NYSE: C) was trading at $49.59. Following the credit crisis of 2007–2008 and by the end of October 2009, Citigroup’s stock price had plummeted to $4.27. Several banks went under, and others saw their stock prices lose more than 60% of their value.Based on your understanding of stock prices and intrinsic values, which of the following statements is true?a.) The intrinsic value of a stock is based only on the perceived risk in the company.b.) A stock’s intrinsic value is based on the fundamental cash flows and the company’s risk.You can estimate the value of a company’s stock using models such as the corporate valuation model and the dividend discount model. Which of the following companies would you choose to evaluate if you were using the corporate valuation model to estimate the value of the company’s stock?a.) A company that is not expected to distribute any earnings to its stockholders for the next few yearsb.) A company that has a stable distribution policy

Answer 1

1. Option a.) The intrinsic value of a stock is based only on the perceived risk in the company

2. Option a.) A company that is not expected to distribute any earnings to its stockholders for the next few years

Step-by-step explanation:

1. Stock Price is based on investors' perceived risk in the company. The stock price is a reflection of investors' sentiment and preception of risk in the company, whereas intrinsic value of the stock is not based on true value.

2. The dividend discount model is based on the idea that the value of an investment is the present value of its future flows, which are dividends. So Corporate valuation model will be selected for a company not intending to distribute any earnings for the next few years. Corporate valuation model uses real value of assets held to find out the stock's value.

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