Is the Twitter IPO all hype and no substance?

Nov 5, 2013

In this issue:
»  Banks dole out more fine post subprime
» Goldman Sachs upgrades India
» Bond king Bill Gross loses the top spot
» Housing bubble is brewing in Brazil
» ...and more!

There is nothing like a fad to get the pulse of investors all over the world racing. And the latest seems to be social media sites. Indeed, Facebook, Twitter, LinkedIn have completely altered the landscape of communication globally. So popular are these sites, that most have capitalised on the opportunity to raise funds from the public and get listed. Facebook and LinkedIn have already come out with their IPOs. And the latest to join the bandwagon is Twitter.

However, should popularity be the main criteria to invest in the IPO of any company? Twitter certainly appears to think so. As per various business dailies, the company has raised the price range of its issue to US$ 23-25 a share. This was US$ 17-20 per share earlier. This seems to be the result of enthusiastic response from prospective investors towards the stock.

What about the fundamentals? As reported in the Economist, Twitter is still losing money. Losses were to the tune of US$ 134 m in the first nine months of this year compared with US$ 71 m in the same period of 2012. Because of this arriving at a fair value for the company on a price to earnings multiple becomes a challenge. And so analysts, bankers and investors are scrambling around to find other valuation measures to value the company. But whether that justifies the increase in the price range remains to be seen. Nobody really seems to be harping on how good and sound the company's business model is. The focus seems to be entirely on the popularity of social media sites and the recent surge in stock prices of both Facebook and LinkedIn. But, will long term investors benefit from investing in the stock at the price proposed by Twitter? That is the key question.

Overpricing of IPOs has been a common trend not just in the US but also in India. Companies and bankers typically wait for a boom period in the stock markets. This is so that the issues can be priced high. The rationale being that buoyancy in the stock markets will lure investors to invest in these IPOs. There is a misconception that prices will continue to scale higher. In the process, key factors such as soundness of the business model and management quality are put on the backburner. Many only put in money to capitalise on 'listing gains' without giving due consideration to valuations. Indeed, what happened with the Reliance Power IPO in 2008 is a classic case in point. Despite not having a single rupee in revenues, the company priced the issue at a premium of Rs 395 per share!

The factors that one looks at while investing in IPOs is no different from the rationale while investing in stocks of already listed companies. So if investors do not have clear visibility on the future prospects of a company coming out with an IPO, there is no harm in waiting for a few years to gauge the company's performance before taking the plunge.

Do you think that IPOs like that of Twitter rely entirely on hype with no focus on fundamentals? Let us know your comments or post them on our Facebook page / Google+ page

 Chart of the day
The repercussions of the subprime crisis in 2008 have continued to haunt banks until today. As today's chart shows, Bank of America has had to dole out the maximum amount in settlements and fines with respect to US mortgage activities in the last 5 years. JP Morgan Chase has recently agreed to pay a hefty settlement of US$ 13 bn to regulators thereby placing it second on the list. There was considerable murkiness in the whole subprime mortgage issue which involved a lot of shady financial products. And therefore it will be hardly be surprising if banks will be required to dole out more of such fines and settlements in the future.

Settlements & fines for US mortgage activities

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A few months ago, there was quite a bit of negativity surrounding the Indian economy. Growth was slowing down. The deficit position was not very heartening. And the rupee was on a downward trip. Most of the international agencies were busy downgrading India as they were fearing that things were only going to get worse. And now it looks like the negativity has all vanished. As per Business Standard, Goldman Sachs has upgraded its view on India. Their optimism is based on the possibility of Mr Modi winning the 2014 elections. They are of the opinion that things have changed and this should bring a structural improvement in the economy. They have also upgraded their earnings estimates for the Indian companies. But the question we ask is what is the radical change that has taken place in the past few months? The answer is nothing.

The political scenario is still a guessing game. Predicting which way the electorate will swing during the elections is akin to crystal ball gazing. And basing optimism on this is nothing but adopting a myopic view of a very large economy. The long term growth story for India was always intact. True there are certain structural problems that are weighing down on the economy. These require reforms from the government. If and when they are made and enacted there is no reason as to why India cannot get back on its growth wagon. Therefore, investors would do well not to read into such short term and myopic predictions. It would be better for them to spend the same time instead on understanding the long term potential of their favorite stocks. For that would help them in the long run.

A cursory glance at the quarterly performance of public sector banks may leave investors with a lot of hope. Far from the noise about rising bad loans and poor quality management, the results this quarter have been enthusing. PSU banks have earlier blamed the loan restructuring initiative for the pile up of unrecoverable assets on their books. There were also cases of willful default amongst mid and large corporates. However, the fight against wilful defaulters got a shot in the arm with Reserve Bank of India (RBI) getting stern. Governor Raghuram Rajan pushed banks to get bad loans off their books by selling them to asset reconstruction companies. Also the stance of penalizing willful defaulters and acquiring ownership rights of the companies led to quick recoveries. As a result banks that had gross NPA going beyond 3% of loans last quarter have seen a substantial decline. While some have seen improved recovery from sticky loans, others have sold them. However, this does not bring an end to the problem. Rather far from it. PSU banks can least afford to get complacent about their asset quality problems with the performance this quarter. In fact the effort should be focused on ensuring that incremental slippages are minimal. Investors meanwhile should be investing only in the banks that have a track record of sustaining good asset quality over long periods of time.

Bond king Bill Gross has lost his top spot. His fund's assets under management (AUM) started declining since the month of May and are now less than US$250 bn as at the end of October. It may be noted that PIMCO, Gross's flagship fund, gained the top spot as world's largest mutual fund in November 2008. Now this was the time when the financial crisis was at its peak. As a result, most investors fled stocks and started seeking safety in bonds. This led to increase in AUM and thus size. However, since the last few months PIMCO has been shrinking in size. The top spot now belongs to Vanguard's total stock market index fund which has roughly US$251 under management.

What does this shift indicate? Money is moving out of bonds to equities. As highlighted earlier investors seek safety in troubled times. This leads to investment in safer assets like bonds. However, an increase in AUM for a stock index fund indicates that investors are expecting a revival soon. Increase in AUM has led to increase in size for the Vanguard's stock market fund. While AUM for both the funds is neck to neck, a shift in the asset class is what investors should pay attention to. One is a bond fund and other a stock fund. Thus, increasing exposure towards Vanguard, a stock fund, indicates that economic recovery could be on the cards.

How are asset bubbles created? Why do policy makers often fail to curb such bubbles? If you have been thinking about these questions, here are some very interesting answers. Unfortunately, policy makers often play a key role in brewing asset bubbles. And there are seldom any political incentives to curb asset bubbles.

We came across a very interest article in Bloomberg shares the case of Brazil's skyrocketing housing prices. Six weeks prior to winning the Nobel Prize in economics, renowned economist Robert Shiller warned of a housing bubble brewing in Brazil. But Brazil's President Dilma Rousseff has chosen to disregard such bubble warnings. She initiated measures that have further fuelled housing demand even as prices continue to rise at a brisk pace. Here are some worrying signs. Home prices have been growing twice as fast as rent. Secondly, mortgage debt as a percentage of disposable household income has shot up to a record high of 15%. It is worth noting that this is almost double the level at the start of Rousseff's term.

Why has the President chosen to ignore signs of a housing bubble? The answer is simple. The presidential elections are due next year. By propelling housing demand, the President is aiming to stimulate the economy and ensure favourable sentiments. As you can see, political ambitions often trample over the economic interests of a nation. We see this is happening in India very often. And this is what really worries us.

If you thought the yellow metal gold has had its time in the sun, here's something that will make you reconsider your views. An impressive graphic over at shows how China is taking over the world, one gold bar at a time. It traces the great Chinese gold rush right from the 1930s up to 2013. Here are some important data points. Right now, it is India that devours the maximum amount of the world's gold stockpiles. However, if the trend in China continues, India is likely to lose the crown sooner than later. For at 4 tons per day, China is well on its way to replace its Himalayan neighbour as the world's largest gold buyer. Here's another one. The first six months of the year saw the Shanghai Gold Exchange supply a staggering 1,098 tonnes of gold into the domestic market. This represented 25% of global gold supply and a huge 94% jump over the previous year. This is not all. The Chinese gold association has estimated gold holdings to touch 5g per capita, citing huge potential for future growth. We believe these figures would suffice to make you take a fancy to the yellow metal. If it doesn't, let us tell you the other risk of continuous debasing of fiat money remains as strong as ever. Thus, it would be a mistake not to make gold small part of one's portfolio we reckon.

In the meanwhile, the Indian markets continued to trade weak during the post noon trading session. At the time of writing, the BSE-Sensex was down by about 190 points or 0.9%. While stocks from the realty and auto spaces were in favour, selling pressures was seen in stocks from the FMCG and pharmaceutical spaces. Midcaps and smallcaps were in favour today with the BSE-Midcap and BSE-Smallcap indices trading higher by about 0.8% and 0.7% respectively. Stock markets in other parts of Asia ended the day on a mixed note with China and Japan up by about 0.3% and 0.2% respectively, while Hong Kong was down by 0.7%.

 Today's investing mantra
"The individual investor should act consistently as an investor and not as a speculator. This means that he should be able to justify every purchase he makes and each price he pays by impersonal, objective reasoning that satisfies him that he is getting more than his money's worth for his purchase" - Benjamin Graham

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3 Responses to "Is the Twitter IPO all hype and no substance?"

Ganesh Sastri

Nov 6, 2013

If Twitter could have shown MORE losses, they could have priced their IPO even higher.



Nov 5, 2013

Even fundamentals needs to to be proven either way and need time. Hence, it would be good that share prices are to be priced in accordance to the current situation, not as per hype(or company's/ or external evaluators) recommendations. Future projections can be considered given the business model with Appetite to absorb the risks forseable.


H K Prakash

Nov 5, 2013

We only have to look at the IPOs of IT companies that scammed the market in 1999-2000. History repeats itself, word for word. Probably marketing staff use copy and paste to lift jargon from those years to market IPOs today.
Feces Yuck, Twittering, Kinky-In will collapse in a year's time just like then? God knows!
I am still holding Cybermate Infotech, Hyderabad from 1999-2000. Rs 900 market value then. Today Rs 2?. Cant demat, company has no money to pay the fee. They dont want to buy back from me. I am waiting for the IT boom to hit India's markets once again and for these scam-sters to try yet another money heist!

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