At a Premium
What Does At a Premium Mean?
"At a premium" is a phrase attached to circumstances where a current value or conditional value of an asset is trading above its fundamental or intrinsic value. For example, "Company X is trading at a premium to company Y." Or, "A commercial building was sold at a premium to its underlying value."
There are a variety of circumstances where an asset trades at a premium to its fundamental value for some period, yet the phrase can likewise reveal the speaker's very own assessment of the asset's intrinsic value — which might be the result of a cognitive or emotional bias.
A premium can be contrasted with an asset trading at a discount.
Understanding At a Premium
All things considered, premium is a price paid for above and beyond some fundamental or intrinsic value. "Premium" is derived from the Latin praemium, where it meant "reward" or "prize". "At a premium" is hence meant to describe that an asset as being priced higher than it is really worth.
On account of a takeover, for example, the procuring company often purchases the stock of a target company at a premium to market value. This is known as the acquisition premium and is really recognized as goodwill on the acquirer's balance sheet post-acquisition. Any offer or proposed merger being discussed at a price point above the current market price for that asset can likewise be supposed to be at a premium.
Likewise, some assets will trade at a premium to some key indicator that is typically more closely aligned with the market price. For example, a closed-end fund may trade at a premium to its net asset value (NAV) per share, with that figure for the most part being expressed as a percentage. For example, a fund might have a NAV of $10 a share yet trade at $11. It trades at a premium of 10%.
A risk premium involves returns on an asset that are expected to be in excess of the risk-free rate of return. An asset's risk premium is a form of compensation for investors. It represents payment to investors for tolerating the extra risk in a given investment over that of a risk-free asset. Likewise, the equity risk premium refers to an excess return that investing in the stock market provides over a risk-free rate. This excess return compensates investors for facing the relatively higher risk challenges equity investing. The size of the premium varies and depends on the level of risk in a particular portfolio. It likewise changes over time as market risk fluctuates.
"Premium" is alternatively used in finance to describe the price paid for protection from a loss, hazard, or damage (e.g. as insurance or an options contract).
At a Premium and Stock Comparisons
"At a premium" is likewise used when comparing two stocks that are judged to be comparative. For example, in the event that Apple is trading at $185 a share and Microsoft is trading at $123 a share, Apple can be supposed to be trading at a premium to Microsoft. Even then, there is the way that the number of shares outstanding differs, making it a flawed comparison before we even address the question of how comparative Apple and Microsoft really are.
However, this type of premium comparison is more generally applied to specific ratios, like the price-earnings (P/E) ratio of the two stocks. Utilizing a ratio or other key performance indicator side-steps some comparison issues, however this practice can in any case be misleading.
Stock A may trade a premium to stock B, yet there are numerous circumstances where stock An is as yet the superior investment regardless of the premium. Perhaps stock A has a better business model, or has a better cost structure, or is a steady performer in challenging markets, or is really not overvalued at all given its revenue growth.
While the opinions in financial media can be enlightening, it is important for investors to investigate as needs be before deciding that a stock is trading at a premium compared to another stock or its own intrinsic value. The market price right presently is the market price. Sorting out the intrinsic or fair value that a stock ought to trade at is considerably less clear.
- In a takeover, the target stock is often acquired at a premium to market value — this is a genuine usage of the phrase.
- Stock valuation is complex, so it is hard to definitively say a particular stock costs more than it ought to. For that reason the market is the last say in price discovery.
- The phrase "at a premium" is used in both verifiable and opinionated statements to describe circumstances when an asset or security is priced higher than its fundamental value.
- When financial pundits say one stock is trading "at a premium" to another stock or its own fundamental value, there is often some opinion or subjective judgment mixed into the assessment.