How to calculate the value of a stock: the market compass

When we enter the world of stock markets, we face an inevitable question: what is the true price of a share? That number blinking on the screen doesn’t appear out of thin air. Behind it, there is a mechanism that has been functioning for centuries, although we often take it for granted without understanding its deep workings.

The origin of price: from barter to currency

Let’s imagine an ancient village where everything was exchanged directly: so many candles for a loaf of bread, so many cowhides for a tapestry. This system worked, but it suffered from monumental inefficiencies. What happened when the baker didn’t want what the herdsman offered? How to establish if ten lettuces were really equivalent to a cow?

Money arose precisely to resolve this chaos. By assigning a numerical value to each good, transactions became easier. Now the baker knew exactly how many coins he would get for his loaves, without needing to negotiate with each customer based on what they had to offer.

In modern markets, the same thing happens. The Law of Supply and Demand determines the quoted price of any security. When more buyers want to purchase a stock than sellers willing to sell, the price rises. When the opposite occurs, it falls. That equilibrium point, that consensus emerging between opposing forces, is what we call market value.

What exactly is the value of a share?

It is not an abstract concept nor a figure taken from a complex mathematical model. The quoted price of a share is simply what the market says it is worth, here and now. Nothing more, nothing less.

Suppose a company called “ABC” is trading at 16 euros per share. That number reflects the current balance between those wanting to buy and those wanting to sell. If you try to place a sell order at 34 euros, you probably won’t find a buyer. At the same time, if you offer just 12 euros, no seller will accept.

This leads us to an uncomfortable truth: yes, you can formally set the price you want, but the market is not obliged to match it. Your order will simply remain pending, without being executed.

The liquidity dilemma: when price becomes illusory

Here comes the crucial aspect that many novice investors ignore or minimize: liquidity. An asset may have a theoretical market price, but if no one is really buying or selling, that price is practically fiction.

We’ve all seen dramatic headlines about stocks that “exploded” in value. When we investigate the background, we discover something unsettling: the transaction volume was tiny. With few demanders and few suppliers, three things can happen: the trade doesn’t execute, the seller wins, or the buyer wins. None of these reflect a truly stable price.

Liquidity is vital for the price to be real. Massively traded assets have reliable prices. Poorly traded securities can become “liquidity traps” from which it’s almost impossible to escape without significant losses.

Primary market versus secondary market: where the price is formed

There is a fundamental distinction that directly affects the concept of a share’s value.

In the primary market, companies, governments, or organizations issue new securities. The money goes directly to the issuer. This is where shares are born. Placements can be direct (private sale to specific investors) or indirect (through financial intermediaries).

In the secondary market, existing owners trade those securities among themselves, without the money returning to the company. This is where you buy shares from another investor, not from the company itself.

And here’s the important part: the market price we all observe and talk about is the secondary market price. It is the continuous, dynamic market where millions of orders flow daily.

Market capitalization: the next level

There is a direct relationship between the individual price of a share and what we call market capitalization (or stock market value). The latter is simply the price of each share multiplied by the total number of shares outstanding.

If a company has 1 billion shares and each costs 50 euros, the market capitalization is 50 billion euros. Knowing one figure allows you to automatically calculate the other.

The crucial point here is to understand that market capitalization does not necessarily reflect the company’s true book value. A company may have assets worth a hundred million according to its balance sheet, but if the market is pessimistic, its capitalization can be lower. Conversely: if there is speculative euphoria, the market may value it above its books.

Different ways of valuing: nominal, book, and market

To avoid confusion, let’s clarify three different concepts:

Nominal value: simply the original issuance price. It is calculated by dividing the share capital by the total number of issued shares. It serves as a historical reference, but little more. Over time, it diverges greatly from the real price.

Net book value: arises from dividing net equity (assets minus liabilities) by the number of shares. Many “value” oriented investors consider it the true metric, ignoring what the market says. They theorize that eventually, the price will converge toward this value.

Market value: is what we just described. The convergence of buyers and sellers. Volatile, emotional, sometimes efficient and other times completely irrational.

The uncomfortable truth: the market is not always efficient

At this point, we must face a hard truth: the market price is far from perfect. It often does not reflect the true value of a company, but rather the collective perception, speculation, fear, and greed.

Financial bubbles are the most evident proof. Investors buy assets simply because they go up, without understanding why. The phenomenon feeds itself: the price increase attracts more buyers, which drives the price higher, enticing more speculators.

Terra is an instructive example. In less than a year, it went from trading at 11.81 euros to reaching 157.60 euros. It was promoted on television as an extraordinary stock market opportunity, pure enthusiasm without solid fundamentals. It was absorbed by its parent company Telefónica and finally disappeared in 2017.

Gowex offers another even more bitter lesson. The company boasted of being one of the largest Wi-Fi providers worldwide. The problem: most people ignored how that technology actually worked. Its CEO lied blatantly about viability. A critical analysis by American researchers dismantled the narrative, and investors discovered too late that they had participated in a monumental scam.

Practical calculation: how to determine the price

For those interested in the technical formula: the price of a share is calculated by dividing market capitalization by the total number of shares outstanding.

However, the good news is that you don’t need to do this calculation manually. Your brokerage platform provides it instantly on screen. What is crucial to understand is the difference between the ask price (“ask”) and the bid price (“bid”). That gap is known as the “spread” and represents the implicit commission that the intermediary extracts from each transaction.

Do all assets have a price?

No. Liquidity again is the determining factor. Shares of large companies like BBVA find counterparts instantly. Small stocks like Urbas are hardly traded. And if you venture into more exotic territories like private equity or unlisted debt, you may find that your “investment” is practically impossible to liquidate without accepting severe losses.

Conclusion: navigating complexity

The market value of a share is both simple and complex. Simple in its definition: it is what the market says it is worth. Complex in its application: because that price can be rational or speculative, efficient or illusory, lasting or fleeting.

In the current context of normal interest rates (after years of zero rates) and restrictive monetary policies, the “growth” speculative approach loses appeal. Markets seek more solidity, steady cash flows, controlled expenses. Companies that make money today matter more than promises of profits tomorrow.

The final lesson: understand the difference between market price and real value. The first fluctuates constantly. The second requires deep analysis. Your ability to distinguish them will determine your success as an investor.