Embeddedineachapproachareassumptionsaboutmarkets
andhowtheyworkorfailtowork.Withdiscountedcashflow
valuation,weareassuming thatmarketpricesdeviatefrom
intrinsic value but that they correct themselves over long
periods. With relative valuation, we are assuming that
marketsareonaveragerightandthatwhileindividualfirms
inasectorormarketmaybemispriced,thesectororoverall
marketisfairlypriced.Withasset-basedvaluationmodels,we
areassumingthatthemarketsforrealandfinancialassetscan
deviateandthatwecantakeadvantageofthesedifferences.
Finally, with option pricingmodels, we areassuming that
markets are not very efficient at assessing the value of
flexibilitythatfirmshaveandthatoptionpricingmodelswill
thereforegiveusanadvantage.Ineachandeveryoneofthese
cases,though,weareassumingthatmarketswilleventually
recognize their mistakes and correct them. Figure 18.7
summarizes the analysis.
FIGURE 18.7Views on Market and Valuation Approaches
CHOOSING THE RIGHT DISCOUNTED CASH FLOW
MODEL
Themodelusedinvaluationshouldbetailoredtomatchthe
characteristicsoftheassetbeingvalued.Theunfortunatetruth
isthatthereverseisoftentrue.Timeandresourcesarewasted
tryingtomakeassetsfitaprespecifiedvaluationmodel,either
becauseitisconsideredtobethebestmodelorbecausenot