As stock markets around the world are into the bull mode, investors have been asking the themselves the above question. During the past few decades, the academic theory brought forward was that financial markets accurately reflect a stock's underlying value. But lately, the view that investors can fundamentally change a market's course through irrational decisions has been moving into the mainstream.
With the exuberance of the high-tech stock bubble and the crash of the late 1990s still fresh in investors' memories, adherents of the behaviorist school are finding it easier than ever to spread the belief that markets can be something less than efficient in immediately distilling new information and that investors, driven by emotion and greed, can indeed lead markets awry. Some behaviorists would even assert that stock markets lead lives of their own, detached from economic growth and business profitability. A number of finance scholars and practitioners have argued that stock markets are not efficient—that is, that they don't necessarily reflect economic fundamentals. According to this point of view, significant and lasting deviations from the intrinsic value of a company's share price occur in market valuations.
Most agreed that behavioral finance offers some valuable insights—chief among them the idea that markets are not always right, since rational investors can't always correct for mispricing by irrational ones. In fact, significant deviations from intrinsic value are rare, and markets usually revert rapidly to share prices commensurate with economic fundamentals. Therefore, investors and managers should continue to use the tried-and-true analysis of a company's discounted cash flow to make their valuation decisions.
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