Question

What caused the difference between the estimate of a stock's value and its market price based on the Dividend Discount Model? Please explain.

Answer 1

The difference between a stock's value as calculated from the Dividend Discount Model and its market price can be due to a variety of reasons. The foremost is that this comparison between the two means that we are expecting efficiency in the markets which is not always the case. So, the markets are not always efficient. Also, there can be some news which has affected the growth and riskiness of the company which is the reason behind the divergence. Apart from these, there is also a difference in the expectations and assumptions of various analysts. For e.g. one analyst may ascribe a different growth figure to it and some other analyst may ascribe another. Hence, the market price will be somewhere in between those figures. Also, stock values also depend on the environment of the economy, the sector etc as well. Hence, the divergence can be the result of that as well.