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Predatory Trading and Crowded Exits: New thinking on market volatility by James Clunie

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Chapter 1. The Ecology of Markets

Fair value

What is the right price for an asset?

A common way of thinking about this problem for a security, such as a stock or a bond, is in terms of its fair value. This is the notion that there is a single value that the security is intrinsically worth at any given time.

A rigorous way in which to think about the intrinsic value of a security is to consider the future cash flows that the security will generate for the owner, and then discount those cash flows back to today’s money. This concept relies on the idea that an expected cash flow at some future date is less valuable than money in hand today, because of the opportunity cost of not having access to the cash today, and the risks associated ...

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