Question

Question: How does Professor Damodaran define Intrinsic Valuation?

Before answering these questions please watch the 3 Damodaran Videos and answer the following question. Intrinsic Valuation

Answer 1

According to Professor Aswath Damodaran, professor of finance at the Stern School of Business, NYU, referred to himself as an intrinsic value investor. He went on to explain that each investment in his portfolio has to meet the same test to remain in the portfolio, as it did when he first bought it. That test is a simple one: He should buy when a stock trades at a price below its intrinsic value and should not if it trades above it. How does he explain intrinsic value? It is the value that you would attach to an asset, based upon its fundamentals: cash flows, expected growth and risk. At its core, if you stay true to principles, a discounted cash flow model is an intrinsic valuation model, because you are valuing an asset based upon its expected cash flows, adjusted for risk. Even a book value approach is an intrinsic valuation approach, where you are assuming that the accountant's estimate of what fixed and current assets are worth is the true value of a business.

Below are a few important points he mentioned:

I believe that the biggest mistakes in investing are made not in what or when you buy, but in what or why you choose not to buy and what and when you sell (what you have already bought). While I cannot will myself to rationality, there are things that I try to do to counter my all-too-human emotions.

1) Due Process
Left to my own devices, I know that I will selectively revalue only those investments that I like, and only at the times of my choosing, and ignore revaluations that will deliver bad news. It is for this reason that I force myself to revalue each investment in my portfolio at pre-specified intervals (at least once a year and around significant news stories).

2) Spread my bets
I have found that I am far more likely to both panic and be defensive about investments that are a large portion of my portfolio than for investments that are small, one reason I stay diversified across many stocks (each of which passes my investment test) rather than a few.

3) Be explicit in my valuation judgments
I have found that is far easier to be delusional when you buy and sell based upon secretive, complex and closed processes. It is one reason that I not only try to keep my valuation assumptions explicit but also share my valuations. I know that someone will call me out on my delusions, if I try to tweak them to deliver the results that I want.

4) Admit publicly to being wrong
I have tried to be public about admitting mistakes, when I make them, because I have found that it frees me to clear the slate. I must admit that it does not come easily to me, but each time I do it, I find it a little easier than the last time.

5) Have faith but don't make it doctrine
I have faith (misplaced though it might be) that I can estimate intrinsic value and that the price will eventually converge on the value and that faith is strong enough to withstand both contrary market movements and investor views. At the same time, I know that I have to be willing to modify that faith if the facts consistently contradict it. I can hope that one day my investment decisions will not be driven by need to defend, deny or flee from past mistakes, but I am still a work in progress in my quest for investment serenity.