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What is meant by "priced in"?

Personal Finance & Money Asked by grldsndrs on December 21, 2020

I’ve been trying to wrap my head around the idea of stocks with future earnings/value "priced in". How does this work exactly, with a fund. Does some manager look at the possible earnings a fund might gain (over some period) and add that to the current valuation of the fund?

If that is so, what time period does a manager use?
What research does a manager use to get the number?
How can one tell if the "priced in" numbers are valid?

3 Answers

Anyone who wants to can use any method they want. Ultimately, the price of the stock will settle on the valuation that people tend to agree on. If you think the priced in numbers are too low, buy the stock as that would mean that its price will go up as the future earnings materialize. If you think it's too high, short the stock, as its price will go down as future earnings fail to materialize.

The current price represents the price at which just as much pressure pushes the price up as down. That means people agree it's reasonably approximating the expected future value.

Imagine if I needed money now and sold at auction whatever salary I make in 2019. How much will I make in 2019? I might be disabled. I might be a high earner. Who knows? But if I auction off those earnings, whatever price it sells for represents everyone's best estimate of that value. But each participant in the auction can estimate that value however they want.

If you want to know what something is worth, you see what you can sell it for.

Correct answer by David Schwartz on December 21, 2020

"Priced in" just means that the speaker thinks the current price has already taken that factor into account. For example, the difference in price right before and right after a dividend is released often differ exactly by that dividend -- the fact that the dividend would function as a "relate" on the purchase price was priced into the earlier quote, and its absence for another year was priced into the later quote.

The ten can be applied to any expected or likely event, if you really think the price reflects that opportunity of risk. It just means that this factor, in the speaker's opinion, doesn't create an opportunity one can take advantage of.

Answered by keshlam on December 21, 2020

I think the first misconception to clear up is that you are implying the price of a stock is set by a specific person. It is not. The price of a stock is equal to the value that someone most recently traded at. If Apple last traded at $100/share, then Apple shares are worth $100. If good news about Apple hits the market and people holding the shares ask for more money, and the most recent trade becomes $105, then that is now what Apple shares are worth. Remember that generally speaking, the company itself does not sell you its shares - instead, some other investor sells you shares they already own. When a company sells you shares, it is called a 'public offering'.

To get to your actual question, saying something is 'priced in' implies that the 'market' (that is, investors who are buying and selling shares in the company) has already considered the impacts of that something. For example, if you open up your newspaper and read an article about IBM inventing a new type of computer chip, you might want to invest in IBM. But, the rest of the market has also heard the news. So everyone else has already traded IBM assuming that this new chip would be made. That means when you buy, even if sales later go up because of the new chip, those sales were already considered by the person who chose the price to sell you the shares at.

One principle of the stock market (not agreed to by all) is called market efficiency. Generally, if there were perfect market efficiency, then every piece of public information about a company would be perfectly integrated into its stock price. In such a scenario, the only way to get real value when buying a company would be to have secret information of some sort. It would mean that everyone's collective best-guess about what will happen to the company has been "priced-in" to the most recent share trade.

Answered by Grade 'Eh' Bacon on December 21, 2020

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