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Your 1st New Year's Resolution: Avoid the Twitter Hangover

Although we don't believe in timing the market or panicking over daily movements, we do like to keep an eye on market changes -- just in case they're material to our investing thesis.

This bull market appears to be resolute on seeing the year out on a high note – literally – as stocks hit another record high on Thursday, with the S&P 500, and the narrower Dow Jones Industrial Average (DJINDICES: ^DJI  ) , gaining 0.5% and 0.7%, respectively. For the Dow, it was the sixth consecutive record high close, even as the yield on the 10-year Treasury note hit 3% intraday – its highest level since September.

We have a liftoff! Shares of Twitter (NYSE: TWTR  ) look like they are headed to the moon after a stunning series of daily price rises that have lifted the stock 32% over the past five days, and close to 80% this month. That's no reason to get on this rocket.

TWTR Chart

TWTR data by YCharts

Relative to its $26 offering price at its Nov. 7 IPO, the stock, at $73.31, is now closing in on a triple. The remarkable thing about this meteoric rise is that it has occurred in the context of virtually no additional fundamental information concerning the company, which is now valued at an astounding $40 billion. As Bloomberg notes, this is more than Time Warner Cable, Viacom, or Target -- not bad for a company that will force shareholders to wait until 2016 to earn an annual profit, according to Wall Street's consensus estimates!

The stock's "light as a feather" rise does not convey the weight of the expectations that are now embedded in the price; however, at a market value of 41 times next 12 months' revenue estimate, they are Herculean. Or, as Wunderlich Securities' Blake Harper wrote on Christmas Eve:

Many investors who are long and bullish on Twitter at these prices are betting on the company becoming a dominant media and technology platform that executes flawlessly and takes a larger share of the advertising market over the next 5+ years while competing intensely with Facebook, Google, and many others. While this is possible, we don't believe the current valuation justifies the risk, especially with the company having yet to report a quarter as a public company.

I couldn't agree more with Mr. Harper, who has a sell rating on the stock, with a $36 price target. In fact, I'd go further: It appears highly likely that investors are now shunning fundamentals and valuation altogether in assessing Twitter, and are, instead, beginning to extrapolate promise and hope into "sky's the limit" dreams, producing a spectacle reminiscent of some of the excesses of the dot-com bubble.

Furthermore, the dream machine lending steam to the stock is also fueled by a very low float (i.e. a very small supply of freely tradeable shares): just 11% of fully diluted outstanding shares, according to Mr. Harper. As I wrote at the beginning of last year, high-profile/low-float technology IPOs have a spotty record in terms of delivering long-term returns. Twitter and its shareholders may be partying like it's 1999 right now, but the longer the party lasts, the more painful the hangover will ultimately be. For now, though, the market's refrain is: "Just one more drink!"

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Related Tickers

9/26/2016 1:15 PM
^DJI $18124.52 Down -136.93 -0.75%
TWTR $21.94 Down -0.68 -3.01%
Twitter CAPS Rating: ***