You may be asking yourself what this whole "determining value" thing is really about and why it matters.
To cut to the chase, here it is: There are only two ways to make money in the market.
The first way is the future-price game: You buy a stock today because you think other people will be willing to pay more for it in five minutes, tomorrow, next week, or next year. You're betting on what the crowd will do in the future.
The second way is the current-value game: You buy a stock today because you believe the business is worth more to you right now than the current price. You're betting on the actual economics of the company — not on what people will think about the stock in the future.
Both start at the exact same number — today's market price. The only difference is the basis of your exit strategy: you bought the stock, so when do you sell it?
Most of the investing advice you see online is built around the price game. It's fast, exciting, and feels like there's a mechanical formula you can follow to easily predict market movements. The price game is focused on figuring out what a company is worth to other people, instead of uncovering what it's worth to you.
To really flesh this concept out, let's break down the two very different ways professionals think about value — and why one of them quietly ruins far more portfolios than the other.
Relative Valuation vs. Intrinsic Valuation
The Academic Jargon vs. Simple Breakdown
Academically speaking:
- Relative valuation estimates what an asset is worth by looking at how the market currently prices "similar" or comparable assets. As Benjamin Graham famously put it, in the short run the market acts like a voting machine — where prices are set by popular opinion, emotion, and what the crowd feels like paying right now.
- Intrinsic valuation estimates what an asset is worth based on its own fundamentals — specifically, the cash flows it can generate, its growth potential, and the risk involved. (We'll go much deeper on this in later lessons.)
What does this mean when we strip away all the jargon?
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Relative valuation = "What will other people be willing to pay for something like this?" You look at what the crowd is paying for similar companies (or assets) and assume this one should trade in roughly the same range. It's pricing by comparison.
- Example 1 — Almost identical assets (the easy case): Imagine you collect baseball cards. You want to know what a Mickey Mantle rookie card is worth. You simply look at the most recent sales of other Mickey Mantle rookie cards in similar condition. No complicated adjustments needed — the cards are basically the same.
- Example 2 — Real assets that aren't identical (the usual case): Now imagine you're trying to value your house. You look at three "comparable" homes that sold nearby. But one has a bigger backyard, another has newer appliances, and the third sits on a quieter street. One seller was desperate and accepted a lowball offer. You have to make all kinds of judgment calls to "normalize" the comparables. Small differences create big uncertainty.
- Intrinsic valuation = "What would I rationally pay for this business today, based on what it can actually produce over time?" You ignore the crowd completely and focus only on the real money the company is expected to generate for its owners — and how likely you are to actually receive those cash flows.
The relative method bets that the market price will eventually "correct" to what everyone else thinks. ("You guys all think Coca-Cola is worth 10 times its earnings… so you must eventually realize Pepsi — which is trading at only 5 times earnings — is basically the same, right?")
The intrinsic method bets that you don't need the crowd at all — the business itself will deliver the return. Sure, you can sell if the market suddenly demands way more than what you paid. But if it never does, you should still be perfectly happy owning it.
Warren Buffett captures this perfectly. He has said you should only buy something you'd be perfectly happy to hold if the stock market closed for the next ten years.