Tag: Valuation

The Water and Diamond Paradox

How can we know the true value of a thing? This has been a philosophical question that dates back to the times of Aristoteles. Philosopher throughout the ages have asked themselves why water which is vital for all life is cheap while diamonds are expensive even though we can easily do without them?

Diminishing Marginal Utility

The solution to the Water-Diamond Paradox is the economic law of diminishing utility. This can be defined as the economic law which states that when there is an input in the production of a community while the other factors are fixed, it is going to get to a point whereby any addition of the good to the consumer of the good is going to lead to low satisfaction with the diminishing increases in the output.

Supply and Demand

A case study is that assuming you are hungry and you find one apple then it is going to precious to you and you are going to eat it to satisfy your hunger and to stay alive. Then if you go for a walk and you see two more apples then you can eat one just for the fun of it and keep the second one till when you are hungry.

If you then happen to see an orchard with lots of apple fruit and you decide to stay close to the orchard, it will come to a time when you will grow tired of eating an apple as it will be nauseating to you. You can then trade some apple for some other commodities that other people will find it to be valuable to them while it is invaluable to you.

This case study shows that each additional value of a given good satisfies a less important need. You can see this as the first apple that you take is mainly for the appraisal of your hunger so as to survive while the second apple fills you up and the third apple was kept for later so as not to be hungry in the future.

This also implies that the first apple that you saw was priceless as you need it to avoid starvation while the second one was just a pleasurable snack while the value of other apples that you find keeps decreasing.

There is no such Thing as Fixed Value

The example above shows that no good has a fixed value. A good will always be considered valuable when people value them. For example, imagine that your parents would buy a sculpture which they really love. Later, once they once they are passed on, you inherit the sculpture. However, you have never liked the sculpture and you feel like it is taking up space.

You mean to throw it away but you’re reluctant to do so because of the sentimental value your parents attached to the sculpture. When discussing your predicament at a party, you discover to your amazement that there is an art collector in town that has been looking for this exact sculpture for years. Suddenly your perceived value of the sculpture has gone up and you are not willing to part with it unless the art collector submits a reasonable bid for the artwork.

In the context of the Water-Diamond Paradox:

  • During a drought, people would value water more than rare diamonds as they need it to survive.
  • As soon as there is enough water, they will tend to value diamonds more as they have the essential needs to satisfy their hunger and thirst then people try to satisfy their sophisticated needs.
  • This theory applies to all the needs in human lives.

Should I Invest in Bitcoin?

The cryptocurrency market has experienced tremendous growth over the last decade; especially in the case of Bitcoin as opposed to other altcoins; Bitcoin is a digital currency that came into the market early in the year 2009.

What is Bitcoin?

Bitcoin’s operations are purely decentralized with no entity given the responsibility of controlling it. Apart from Bitcoin, there are several other cryptocurrencies available in the market today; the most common ones include Ethereum, Litecoin, Tether, Stellar or BitcoinCash.

Since December 2017, Bitcoin’s value has escalated up to about $1900. However, its value has experienced volatility since then, despite the prediction of digital analysts of financial showing the value will increase to $50000 by 2025. This looks quite confusing whether to or not to invest in Bitcoin? Before making a judgment let’s check over some fundamental aspects of in relation Bitcoin investment;

Is Bitcoin Safe?

There has been a hot debate over the years whether Bitcoin is a safe investment. Regardless of the negative stories on bitcoins that people hear, Bitcoin has proven to be more secure compared to other financial systems.

Firstly, the Bitcoin’s operations are decentralized such that over ten thousand nodes are responsible for keeping track of Bitcoin ledger and validate all the transactions in the network to ensure the security of investor’s money. On the other hand, the centralized system can be easily compromised by hackers or third party. Also, Bitcoin uses proof of work to enhance security and prevent any possible failures in the system.

Moreover, the transparent transaction done using bitcoin is also an indication of its safety. Additionally, a customer does not need to provide confidential information when using the Bitcoin Wallet and thus are not a risk of revealing their identity to possible malicious people.

Is Bitcoin Legal?

The question of the legality of any currency is understandable. Unlike the traditional currencies controlled by a single entity, in most cases the central bank, Bitcoin is unique. The Bitcoin is decentralized and primarily under nobody’s control. Generally, the legality of the Bitcoin currency entirely depends on what are you doing with it, where are you in the world. Nevertheless, is essential to be always updated on the recent regulations that may arise with regards to digital currency.

An Investment or a Currency?

Currency can be defined as a unit of account and store of value or a medium of exchange. On the other hand, Bitcoin as per definition can be termed as an asset. In this case, an asset can be used to serve various purposes. A currency should be trustworthy, convenient and stable. Bitcoin has experienced volatility and fluctuation in value over a long period. Its instability, therefore, cannot qualify it as a currency but rather an asset or a commodity. The value of commodity usually surges. It creates an exchange value that is affected and modified by underlying marketing expectations.

How do I value Bitcoin?

There are several ways of valuing cryptocurrencies. One of the best methods of determining the value is by evaluating the market that the cryptocurrency trades in. In this case, the value of Bitcoin can be determined by assessing the supply and demand in the market. In other words, the price of Bitcoin depends on the interaction between the sellers and buyers. A Bitcoin trader who believes that its rate will increase in future will be willing to purchase it at a more expensive than the existing one.

Wrapping Up

The rising demand for digital currency has got the attention of many people in the financial industry. Some of the advantages of investing in bitcoins include protection fraud, minimized risk of identity theft, direct transfer lower fees of transactions as well as the access to difficult-to-access markets. However, some of the limitations are the uncertainty of its legality, high volatility and high risks of loses. Conclusively, based on the above discussion, investing in Bitcoins might be a risk worth taking, having in mind the demand is growing tremendously, and the number of users is doubling yearly.

Should I Invest in ETFs?

Investing in today’s economy has evolved tremendously over the last decade. With advancements in financial technology and the growth of the Internet in general, the financial markets have become more accessible today than ever before.

Exchange Traded Funds (ETFs)

Growing financial markets entice new product creation and one of the more recent products is an ETF or an Exchange-Traded Fund. Having many of the same characteristics of a mutual fund, this is traded on the exchanges and behaves similarly to a stock with minute by minute price movements.

Difference Between an ETF and a Mutual Fund

As stated, an ETF has similar characteristics to that of a mutual fund in that it mimics an index or underlying asset. However, some of the differences include how it works. With a mutual fund, some funds require a minimum investment amount and only let you enter and exit as described in the prospectus. With an ETF, there are no minimum requirements and you can enter and exit how you see fit.

Secondly, when trading an ETF you are actually trading shares, whereas with a mutual fund you are contributing to the pool of assets and your money is being used to rebalance the portfolio. Some mutual funds will limit when you can enter due to frictional costs.

Lastly, mutual funds are typically priced at the end of the day whereas, with an ETF, the price is changing constantly like a stock.

Are ETFs a Better Investment Than Stocks?

Many individuals ask if an ETF is better then a stock, while it varies on an individual level, here are a few benefits that an ETF will have that equities do not. The first one is that company-specific risk is limited. When you invest in an individual equity, you add company specific risk to your portfolio, but when you add an ETF that tracks a sector or index, you have a limited company-specific risk.

Another benefit to an ETF is it is managed with a fund manager. This ensures that your ETF products are reacting and performing as it should. With a stock, you have to watch the company’s performance yourself and be willing to study and understand what you are investing in at the company level.

It’s difficult to have a flat statement saying one is better than the other because everyone has different investment objectives. Each has their own benefits and it is up to you to understand what your portfolio requires.

Are ETFs Safe?

As a general rule, yes, ETFs are a proven product that appears to be safe and sturdy. However, you cannot take for granted that an ETF is safe, even the popular ones such as the SPY. It is prudent that you as an investor to complete your own research and understand if the ETF is aligned with your financial objectives.

Overall, ETFs are a wonderful way to access certain areas of the market without taking on risks such as company-specific risk. You can find ETFs that track an index or market sector, allowing you to diversify portions of your holdings. ETFs should still be researched and reviewed like any investment and should you still have questions, contact your financial advisor.