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Mercredi, 26 Octobre 2011 22:37

A Skeptic's Guide To Reading Tech Stocks

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A Skeptic's Guide To Reading Tech Stocks

Public domain image from The Work of Wall Street by Sereno S. Pratt (1909)

Most technology reporters are not experts in finance and the stock market. Some people are, and a handful are fantastic at it, including some finance reporters who also cover tech. My background is in teaching and research, so I tend to focus on how our experience of technology and media changes over time. I like big pictures and weird connections more than horserace stories.

Still, it’s impossible to ignore that a huge part of our business is directly or indirectly about money and its movements. When the money moves, or is about to move, companies move, too. And sometimes, those movements are weird. So it’s up to us to try to sort it out.

Here, then, are three key things I’ve learned about the relationship between the financial pages and the gadget & software beat. They help explain how market movements affect the products you use and the news you’ve probably read lately. Please don’t take this as investment advice, because I wouldn’t know where to start. Read it as media criticism.

1. People use tech journalism to try to influence market outcomes.

This isn’t just about the things we usually worry about, like companies’ PR reps hustling for favorable coverage, or high-profile Arrington-at-Techcrunch conflicts of interest. The tech world is filled with interested parties trying to place stories in order to move the needle on a stock price up or down so they can pocket the difference.

In March, I wrote about this in the context of the tech bubble for Nieman Journalism Lab. Sometimes, it’s as simple as a tweet to spread buzz about a new company; it can also take the form of detailed scoops that, in addition to their news content, also aim to influence the market by proxy.

One recent example is the acquisition rumors swirling around Yahoo. I actually stopped reporting on these, except to make fun of them.

A recent post from Business Insider’s Henry Blodget spells out these shenanigans pretty plainly. Blodget argues that the Wall Street Journal’s reporting on Yahoo, including a potential partial acquisition by Microsoft, is primarily driven by private equity firms involved in the acquisition who’d like to drive the purchase price down below $16 a share. In turn, Blodget, a Yahoo shareholder and employee and former Wall Street analyst, offers up his own blog as a mouthpiece for Yahoo shareholders (including himself and his sources) who’d like to hold out for a higher price. Yay journalism?

One reason mergers & acquisitions rumors are particularly crazy — Hulu was another example that gave plenty of journalists bottomless copy until finally nothing happened — is because there are just too many parties involved with competing interests who have good reason to use information for their own purposes. I’m not saying journalists shouldn’t go with the information they dig up, but readers should think hard about how much they want to believe.

2. Stock prices can make both investors and companies act like idiots.

Take Netflix — poor, poor Netflix. When the company announced its new pricing separating DVDs from streaming, Netflix was trading at almost $300 a share. Subscriber discontent over the new prices and the loss of content from Starz settled in over the summer, but it wasn’t until the company reported a net loss of U.S. subscribers that the price began to free-fall to the low 100s. This resulted in the Qwikster debacle, which was fiercely defended until Netflix realized it made customers unhappy and didn’t make Wall Street any happier, so they cancelled it.

Now, new projections from Netflix (.pdf) showing that the company will likely actually lose money for much of fiscal 2012 have sent the stock tumbling down to about $75 a share, a stunning loss of roughly 75 percent of its peak value in just a few months.

The real mystery, though, isn’t why people started selling Netflix stock at fire-sale prices, or why CEO Reed Hastings panicked and rushed to hit the Qwikster ’stop’ button when he did. (Well, that’s still a little mysterious, but it’s clear that the two events were related.) It’s why Netflix acquired its myth of inevitability in the first place — a myth that customers, shareholders and Reed Hastings himself were all too willing to believe.

A huge part of this had to do with Netflix’s ever-increasing share price. Reuters’ Felix Salmon argues that after a few high-profile traders went down hard betting that Netflix stock would fall after it reached what seemed a preposterous $180 in 2010, Wall Street’s short-sellers were effectively scared out of the game:

Netflix … was for a very long time a steamroller which would just flatten anybody who tried to short it. And so the shorts went away, bruised, bloodied, and beaten.

Without short interest, there was almost nothing keeping Netflix stock in the realm of sanity. If you wanted to buy it, you needed to find somebody willing to sell it. And with the stock going ever upwards, such people were very hard to find. The stock had its own dynamics, which became increasingly divorced from any corporate fundamentals.

Or, more accurately, the stock dynamics became entrenched within Netflix’s corporate fundamentals. The deals I wrote about yesterday — like paying $30 million per movie for the right to stream DreamWorks’s animated films months after they’re available on DVD — were cheap when they were essentially being paid for with bubblicious Netflix equity. Indeed, insofar as they caused the stock price to rise, they had negative cost to Netflix: the more deals like this that Netflix did, the more valuable Netflix became.

So it’s not just that Netflix started making mistakes when its stock started falling, or that now that we can see that they didn’t work, they’re easy to call bad decisions now. It’s that the decisions the company made were rational and intelligent given the assumption of nonstop share, subscriber and content growth. It’s just that that assumption was very foolish.

3. Stock prices are by and large about the future, not the present.

This is so fundamental that I initially was going to put it first. It doesn’t explain everything, but as a good first assumption, it explains a lot — see Netflix, above, where it almost but doesn’t quite get you there.

The trouble is that this idea starts out simple, but actually turns out to be really complicated. First, everyone’s expectations for the future are different; as a result, when it comes to the future, different companies have to play by different rules.

People buy and sell stock for all kinds of reasons, and professional traders and banks have a whole range of strategies for making money from any and all outcomes, but the easiest way to do it is to buy a stock at Price A as an investment that you think will increase in value. You sell the stock at the higher Price B and pocket the difference.

So almost everyone trying to price a stock today is really gauging what the company’s future looks like. This why companies “missing expectations” on quarterly financial reports or having to issue revised estimates is so important. Everyone has more or less coordinated their price positions around one guess about what the future looks like. The actual results may still be fantastic, but the fantasticness is priced in.

Amazon is one example. Amazon missed expectations with its fourth quarter earnings report, and offered a projection for the first quarter of fiscal 2012 that is just wild: anywhere between a profit of $250 million to a loss of $200 million, on $16.45 billion to 18.65 billion of revenue.

Amazon’s share price has taken a sizable hit on the news, dropping more than 10 percent. But the company is still trading at an out-of-this-world price-to-earnings ratio of 107; its stock price still way outstrips its profits. (By contrast, Apple’s P/E is about 14, while Microsoft’s is just under 10.)

You have to use different metrics to justify Amazon’s price: its revenue growth, its extensive investments in digital and physical infrastructure and the likelihood that its deeply discounted new e-readers will pay off in the long run with media sales.

Price-to-earnings isn’t everything. P/E would tell you that AOL, HP and RIM are all great stock buys right now. And maybe one or more of them is. But the reason their stock is selling so low isn’t that the companies aren’t making money, but that for a wide range of reasons, each company’s future prospects look very troubled.

Amazon is still a company whose investors are betting on big future growth across all its product lines. It’s just not going to be the quick holiday hit that some speculators had hoped.

Apple, on the other hand, has more or less reached the point where fantastic results are always priced in. Apple had another record quarter, missed expectations, took a hit and bounced back. The company’s growth, even record growth, isn’t a surprise anymore. It’s part of the status quo.

Microsoft’s been in the same position for years. Its stock pays a dividend; people buy it and hold it forever. Apple has a ton of cash, and analysts have called for the company to either issue a dividend or do a stock buyback to return money to shareholders, which Apple has resisted — or at least they did under the late Steve Jobs.

The trouble (or the genius, depending on how you look at it) is that Apple still thinks of itself as a growing, outsider company like Amazon rather than what it is, a near-blue-chip like Microsoft. It’s easy to imagine a lot of things going right for Amazon, even if it all might fall apart; for Apple and Microsoft, it’s equally easy to imagine things sputtering out over the next handful of years, even if both companies have strong strategies for growth.

The future is fickle. Customers could sour on Amazon and Wall Street could turn it into the next Netflix. Microsoft could snatch up Yahoo, turn it around, and finally out-Google Google. Without Jobs, Apple could lose its way — or maybe they buy Netflix cheap, reinvent TV and run the whole show.

I don’t think any of these things will happen. But I know that right now, someone is betting that they will.


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