This article was originally published Friday April 11 on TraderPlanet.
Thursday was a bloodletting for social media stocks. Facebook (FB), Twitter (TWTR) and LinkedIn (LNKD) were down 5.2%, 2.7% and 3.5%, respectively. Other “new tech” stocks took a beating as well. Pandora Media (P) was down a gut-wrenching 10.5%, Tesla Motors (TSLA) was down 5.9% and Netflix (NFLX) was down 5.2%.
As I wrote two weeks ago, the momentum names of the past year have all lost momentum. But after the rout we’ve seen, is it time to go bargain hunting?
No. And in fact, I would use any “dead cat bounce” as an opportunity to short these names for the more aggressive traders out there.
I’ve made the obvious observation before that, even after the recent declines, social media and new technology stocks are sporting bubble valuations with no economic justification. Twitter and Tesla have yet to earn a cent in profit yet trade for 36 and 13 times sales, respectively. Telsa’s market cap is roughly half the size of General Motors’ (GM) despite the fact that GM sells more cars in a weekend than Tesla sells in a year. Facebook trades hands at 96 times earnings and 20 times sales; for LinkedIn the numbers are 762 and 14, respectively. Netflix seems almost cheap by comparison at 180 and 5, respectively.
At least one could argue that Tesla and Netflix have solid business models in place and it is just a matter of growing their businesses into the rich valuations that the stock market is currently awarding. But in the case of the social media stocks—Facebook, Twitter and LinkedIn—their basic models are looking shaky. As Jeff Middleswart pointed out in this week’s Behind the Numbers: Thursday Thoughts,
[FB, TWTR and LNKD] are three social networks that have already seen their growth stall for desktop computers and moved to smart phones… The race for these networks has been to overcome stalling desktop users by adding more mobile users to show advertisers an ever-larger potential customer base to tap. [Unfortunately] the problems for the networks may be about to worsen. Essentially, smart phones are tough for marketing. We have noted in that some of these companies have boosted rates per ad recently by offering better placement on screens. Our contention was there is only so much real estate on a phone screen so how can this source of growth be duplicated? …[T]he companies need to find something more to do to produce revenues beyond advertising. That is a sizable shift in focus for companies that trading at very sizeable premiums.
I love social media and I use it on a daily basis. But as a sector its business model is questionable, and the market is pricing in massive rates of growth that I have a hard time believing will ever materialize.
Shorting an expensive stock that is showing momentum is suicide for any trader. But now that these stocks have lost their aura of invincibility, they are fair game.
Action to take: Short a basket of social media and new technology stocks including the names mentioned in this article. Use a fairly tight stop loss at 5%-8% and don’t be afraid of taking profits after a big down day. I expect there to be plenty of opportunities to re-enter the short in the weeks ahead.
Charles Lewis Sizemore, CFA, is the editor of Macro Trend Investor and chief investment officer of the investment firm Sizemore Capital Management. Click here to receive his FREE weekly e-letter covering top market insights, trends, and the best stocks and ETFs to profit from today’s best global value plays.