Good read on Internet stocks and "the bubble".
NEW YORK (Reuters) - Investors
are still loading up on the
money-making machine called "The
Internet," expecting that a bell will ring telling them it's time to race
to the lifeboats.
The experts believe the tide may be turning against Internet stocks,
which have been soaring for the last four years.
A study by a money managing firm shows that most of the top 10
Internet stocks are priced out of this world.
According to Dreman Value Management LLC, the large online
auction house eBay Inc. is worth just $6 a share compared with its
current price of $187, which has been inflated by optimistic
expectations of the company's future earnings.
This week, Wall Street was reminded what could happen if the
trendy stocks were ever caught in a severe downdraft. The
40-stock Dow Jones Internet Index Monday collapsed 19
percent, dragging the Internet-laced Nasdaq Composite index to
its second-worst point loss ever, a bone rattling 138-point drop.
All of the Internet darlings were on the hit list, with America Online
plunging $27 and Yahoo! tumbling $26. Internet-related
companies in financial services also took a beating. E+Trade
Group sank $19 and broker Charles Schwab, the biggest U.S.
online broker, slumped $13.
But the Internets again showed they have a knack for creating
inspirational rallies at low ebb. By the next day, the stocks were
coming back in grand style.
Wall Street has become accustomed to the sector's craziness.
The average share of Internet stock that has come to market this
year has rocketed more than 200 percent -- compared with a gain
of just 2 percent for initial public offerings of stocks that are not in
the Internet category, according to Renaissance Capital Corp., an
IPO firm.
David Dreman, head of Jersey City, N.J.-based Dreman Value
Management, which handles $7 billion of assets, said his study
found that Internet stocks are simply an extraordinarily big bubble.
America Online, eBay, Yahoo!, Qwest Communications, Excite,
Lycos, E+Trade, AmeriTrade, Amazon.com and Cisco Systems
all went under the microscope in Dreman's analysis. But only
Amazon.com and Cisco were judged to be close to reality.
Dreman said the difficulty in projecting the future of Internet
companies is that many still do not have any earnings. The analysis
got around that problem by relying on analysts' forecasts of what
the companies could earn in their first year of profitability.
The analysis then projected a large 50 percent earnings growth for
the companies in the first three years, followed by a 25 percent
rise for the next five years, 20 percent for six years, 15 percent for
seven years and a 7.5 percent income growth thereafter.
The results were mind boggling.
eBay, which has an incredible forward-looking price/earnings ratio
of 8,600, was worth only $6 a share, compared with its current
level of $187.
Yahoo! was given a theoretical value of $31 versus $189;
America Online, $38 against $147; Qwest Communications $25
versus $92; Excite $54 compared with $152; Lycos $34 against
$100; E+Trade Group $25 versus $104; AmeriTrade $36 versus
the current level of $127.
Wall Street had reasonable expectations only for Amazon.com,
which was calculated to be worth $103 versus its current level of
$200, and Cisco, pegged at $118 versus $113.
"Any Internet companies would say that we're crazy and they'll
earn much, much more, because, after all, this is a 'New World,"'
Dreman said. "But people have said the same thing about other
speculative bubbles."
Adding to the bullish excitement for the Internet sector are the
estimated 7.5 million day traders.
"This has created problems not only for the stock market but for
the day traders themselves, who suffer from a gambling problem,"
Dreman said.
"It's gotten so bad, that New Jersey has opened treatment centers
for day traders with gambling addictions, just like they have places
for people with casino gambling problems."
William Valentine, investment manager at Valentine Ventures LLC
said that the higher the Internet stocks rise, the more investors love
the companies and the greater the demand for the shares.
"No one wants to miss out on the rally," he said. "And the people
who have not owned any of the stocks eventually get pulled into
the market, thus creating a constantly expanding demand that Wall
Street can't keep up with. "
The biggest problem investors face is in figuring out which
companies have the most potential. There is no model that would
show, historically, which companies will end up to be winners or
losers.
"There's not a lot of discrimination yet for Internet stocks and, as a
result, the institutional investors are scrambling to get up the
learning curve and they're buying chunks out of all of these
companies," Valentine said.
When the "Big Correction" comes, however, people should not
expect the Internet bubble to just burst.
"The bubble is more likely to deflate than burst because it will take
time to bring the values of these stocks to what is reality,"
Valentine said.
Today's biggest names -- America Online, Amazon.com and
Yahoo! -- will become powerhouses in the business, he said.
What will happen after the Internet shakeout?
"The blue-chip Internet (stocks) will gravitate toward more normal
valuations, albeit high valuations," Valentine said. "A whole bunch
of secondary companies -- niche-oriented types that are trading
80 to 90 percent premium to what they are worth -- will suffer a
more rapid sell-off."
And, a third tier of Internets will become virtually worthless.
"That group, which is the vast majority of the Internet companies,
will be consolidated and eaten up by the secondary stocks and
blue-chip names, and they will essentially disappear," Valentine
said.
Ironically, the companies in the third tier are the companies that
Wall Street is advertising as the latest Internet hot stocks.
"They are the stocks that are coming to market right now and the
Street is saying 'Hurry up, hurry up, the sun is up and the end of
the day is coming,"' Valentine said.
"What's scary is that one-quarter of the Internet-related
companies that are in the IPO pipeline are not only companies that
have no earnings but they also don't have any revenues," he said.
Indeed, investors may just be buying a promise and a vision.
For the week, the Dow Jones industrial average was up 195.78
points at 10,689.67. The Nasdaq Composite index rose 106.65
to 2,590.69 and the Standard & Poor's 500 index gained 37.85
at 1,356.85.
(Questions or comments can be addressed to
Pierre.Belec(at)Reuters.Com) |
