What’s the difference between price and value?
In simple terms, price is what we pay for something (in cold hard cash baby).
Value, on the other hand, is harder to measure. It’s based on how useful something is to someone, or how much it means to them. It’s totally dependent on the individual person.
For example, a relatively inexpensive bracelet might be worth very little if you walked past it in a shop, but if that same bracelet belonged to your late grandmother it might have sentimental value to you. If you lost it, you’d pay hundreds of dollars to get it back. Not because that’s what it’s price would be, but because that’s how much you value it.
The other way to look at is how useful it is.
If you were travelling and lost your adaptor, you’d probably pay through the nose to get your hands on something so you could charge all your technology. It’s value to you is high: without it, you can’t access your maps, your net banking, your itinerary, your entertainment, or your communication.
Someone else wouldn’t pay anything for an Australian adaptor. To them, the value is almost nothing. They’ve got their chargers sorted.
What are we paying for - and what are we actually buying?
Buckle up kids, you’re about to be let in on the BIG SECRET of marketing and advertisement.
They’re not trying to sell you a product.
They’re selling you a feeling.
(Then they’re linking that feeling to their product.)
Designer brands are expert at this. A Chanel handbag will carry your items as effectively as a cheaper brand. But Chanel comes along with feelings of luxury, beauty, and status. That’s what you’re really paying for.
Basically, when an item evokes certain emotions in us, the value becomes greater than the price.
Example 1: Artwork
An artwork that moves you is going to be more valuable (to you) than one that doesn’t.
The price, however, depends on various factors such as who the artist is, what’s considered ‘in’ at the moment in the art world, how rare the painting is, and what prominent critics think of it.
The price is basically an average of what other people (or the ‘market’) think it’s worth.
The price doesn’t necessarily equal it’s worth.
Example 2: Stock/Company
Now let’s apply the same reasoning to a company you’re considering investing in.
Taking into account things like earnings, market share, sales, and competitors, as well as your own short and long term investment strategies - what are those stocks worth to you? That’s the value.
(We've written about 'value investing' here.)
You might plug in all your numbers, do your calculations, and find that their value isn’t the same as the price.
Undervaluing is when the value is lower than the price.
Over-valuing is when the value is higher than the price.
When it comes to shares. The price of the shares will be determined by what everyone else thinks they’re worth (or going to be worth). However, it is a little more mathematical than artwork. Investors are constantly trying to predict the potential for future success and failure.
In other words - prices of stocks depend on both actual value as well as perceived value.
Sometimes value and price match. Sometimes they vary a little. And sometimes, they’re astronomically different. Do your calculations with care, and trust them.
Don’t get sucked into believing something is of high value just because it’s got a high price. You don’t want to pay too much for something because everyone said it was cool for a minute.
Likewise, don’t believe something isn’t valuable just because everyone else hasn’t seen it yet. If you spot an opportunity that you think the market is undervaluing, consider taking the opportunity to invest in that company before everyone else figures it out!