As defined in Wikipedia, firm investment refers to “an investment of money or other funds in the context of helping a company achieve its goals and objectives”. In plain English, firm investment is an act of buying for the purpose of making profits. The idea here is that if the goal of a company is met through efficient management of assets, then the firm will continue to do so in the future, regardless of what the rest of the world may be doing.
So how do we know that a given firm investment is misvalued? The answer is simple. If a given investment does not achieve its goals and objectives, then this investment would be said to be a misvaluation. In the broadest sense, misvaluation can take two forms. First, it can be defined as an error in judgment or in hindsight; and second, it can also be taken to mean that some external factors were involved in the misvaluation.
One common example of a misvaluation in the investment market is the failure of a firm to realize growth or profit in its portfolio. Most people who deal with investment firms expect that their firms will manage their assets well, and that they will realize profits over time. However, there are times when the failure of a firm’s portfolio investments results from a series of unfortunate events. For example, a firm could fail to realize a profits from its stock market purchase because the market did not perform as expected. In this case, investors who had bought the stocks at a good price realized that they were not worth the purchase price, resulting in a loss for the firm.
Similarly, if a firm’s portfolio investments lose value because of market fluctuation, investors who had held the stocks in good stead before the market decline will lose their investment. In this case, investors who had the investment expected to appreciate in value experience a loss because of the decline in the value of their holdings. Investors who expect their investment to retain its value must be very careful to evaluate the performance of the underlying portfolio as well as the firm, especially in these uncertain times.
Another example of investors’ expectations being unrealistic is the failure of a market index to rise above a pre-determined level. Index futures are designed to track the movements of particular market assets. If an index does not reach a preset level, most investors will sell their assets, resulting in the firm experiencing a loss in its assets. The investor may also choose to sell his shares before the market reaches its predetermined level, causing even more loss for the investor. While it is unlikely that the market will fall to such low levels, if an investor is willing to stand by his or her investment without a loss, this scenario could play itself out, resulting in an overall loss for the investor.
Regardless of the cause of a firm’s failure, whether poor market performance, a series of unfortunate events, or underperformance due to market conditions, a shareholder must always evaluate the investment as a whole in order to determine whether or not the investment is providing the maximum return. This evaluation should include both the past and the future. Past performance, while it is important, cannot predict what will happen in the future. The future, however, should provide enough information to provide the basis for the reasonable expectations of the current shareholder.