Momentum-chasers in F5 Networks (Nasdaq: FFIV) found out the hard way yesterday that a parabolic rise in stocks does not last forever. Longer-term investors in the stock also certainly felt the sting of yesterday's more-than-20% decline. Just remember that this stock's still up about 100% in the past year, and about 500% over the last two years.
There's little doubt that companies supporting cloud computing will play an important role in enterprise growth over the coming years. However, even if business trends remain strong, stock prices can't rise forever. With much of this sector inflated to sky-high valuations, I've recommended that investors look for other ways to find value in the cloud.
As Anders Bylund wrote yesterday, F5's quarter was not bad -- actually, it was quite good. F5's simply fallen victim to momentum gone bad. F5 is still taking share and growing faster than competitors Cisco Systems (Nasdaq: CSCO), Brocade Communications Systems (Nasdaq: BRCD), and Citrix Systems (Nasdaq: CTXS). However, even after Thursday's drubbing, F5 remains valued significantly richer than its peers:
|
Company |
P/E | |
|---|---|---|
| F5 Networks | 32.91 | 56.7 |
| Citrix | 26.55 | 45.9 |
| Brocade | 7.92 | 15.16 |
| Cisco | 7.90 | 22.8 |
Source: Yahoo! Finance.
The sell-off in shares of F5 Networks knocked down just about any stock that was even loosely attributed with cloud computing. I agree with another of my Foolish colleagues, Tim Beyers, that selling Rackspace Hosting (NYSE: RAX) because of disappointment with F5 Networks makes no sense. But it also doesn't make sense to ignore that general optimism for all things "cloud" lifted the entire cloud space to the lofty levels from which it's now fallen. Even companies such as Microsoft have tried to characterize their core business as cloud computing to gain some of this cloud premium.
I believe the actual tangible businesses of real cloud companies are too important to call this a bubble. However, two important factors lead me to believe that the days of the "cloud premium" are over.
Inside the machine
As investors and momentum traders bought F5 shares hand over fist during the last year, a small group of people have done just the opposite. Company insiders and large shareholders have sold more than $45 million worth of F5 stock during the last six months, or about 45% of their holdings. In addition, no insider purchases offset some of that selling.
These insider sales are still small when compared many other recent momentum stocks that enable the cloud. For example, Rackspace insiders sold more than $121 million worth of stock over the last year; Riverbed Technology (Nasdaq: RVBD) insiders unloaded more than $146 million; and salesforce.com (NYSE: CRM) insiders, including CEO Marc Benioff, sold a staggering $322 million in stock during its massive run-up over the last year.
These lopsided insider transactions don't necessarily mean that those inside the company believe its stock is overvalued. For example, many have insiders who have the majority of their wealth tied to the stock, and sell off a portion of their ownership at regular intervals. However, it would be nice to see maybe just a few purchases from some high-level executives. I believe this is a clear warning sign, and I'd wait for signs of insider purchases before jumping into any of these stocks myself. If the folks running the company aren't confident enough to buy or even hold shares, why should I?
Analyst uproar
You'll find another warning sign in Wall Street analysts' eagerness to defend F5 Networks late Wednesday, and throughout the day on Thursday. Many of these analysts raced to the financial media wires to reiterate their "buy" or "outperformance" calls. More troublingly, at least four analysts had just raised their price target this month, with a high of $170 and a low target of $150.
Double trouble
This troubles me, because I believe much of the momentum and the premium priced into F5 Networks and some of the other cloud companies are based on this great cloud story. It started to pick up real steam in the investing community in 2009, and by the end of 2010, even my grandfather was asking me how to invest in the cloud. The story is still good, but it's also a very well-known trend -- and a crowded trade. These companies will continue to benefit, but I believe investors looking for continued parabolic moves in these names are in for a surprise.
Forget about Wall Street analysts, institutions, retail investors, and even my grandfather. When the actual people inside these cloud-centric companies are ready to buy, I will be, too.
