What #TwitterIPO Says About Stocks May Be a Bunch of Bulls

By Patti Domm

There are many warning signs that the stock market is getting top heavy, but the Twitter IPO may not be one of them.

Twitter prices Wednesday afternoon in a week that has 16 scheduled IPOs, the most in any week since 2006, according to Renaissance Capital. Last month’s 30 initial public offerings made it the best October since 2004, and Renaissance says 2013 is on track to be the best year since 2000.

“Twitter’s the most well-known of the IPOs, but the IPO calendar is more important,” said Art Hogan of Lazard Capital. “We just had the best month for IPOs since 2007, and the pace continues. What that speaks to is the market can sustain the supply of stock that is coming in. Companies that have been thinking about going public have decided to because the market conditions are favorable. People look at that as a bad sign, but that’s not so.”

“The IPO market is a barometer of market strength, it’s not the other way around,” Hogan said.

Traders, of course, cannot help but compare the social networking company’s debut to that of rival Facebook, whose initial offering in May, 2012, was foiled by technical problems at Nasdaq and over aggressive pricing. Facebook (FB) also came to market at a time when Europe was spooking investors.

“A lot of people are calling it a top, or a bubble, but we’re still a lot lower than where we were in the late 90s,” said Justin Walters, co-founder of Bespoke. “I think this is more a return to normalcy. This is a healthy IPO market. It’s all based on supply and demand. I think the fact that Twitter’s going on the NYSE has people more at ease.”

Twitter is taking a more conservative approach than its social media rival. Facebook’s offering was surrounded by hype and its stock ended up trading below its offer price for months.

“The market conditions are much more conducive for this IPO for sure, but the pricing is very different too. They’re not trying to get every nickel out of this that they can,” said Bob Doll, chief equity strategist at Nuveen Asset Management. “The management of Twitter is very aware of that. Leave some of it. Don’t take it all. It will help you in the long run.”

But traders say as the company’s offering range has been raised, there’s less opportunity for the stock to pop on the open. Twitter’s offering price is now expected between $23 and $25, and traders say it would not be a surprise to see the range raised. The average first day pop for an IPO this year is 17 percent, the highest in years, and well above last year’s 14 percent and 2011’s 10 percent, according to Renaissance.

Renaissance’s Kathleen Smith said in a note that the market is showing some signs of froth, pricing certain sectors richly and social media is one of them.

“Some segments of the IPO market are frothy, particularly the fast expansion consumer chains, cloud computing, biotech and social networking firms. At such high valuations, as the companies report earnings, any slight disappointment will knock down prices dramatically,” she noted.

Twitter may not be commanding the premium Facebook did but it seems to have more fans among the Wall Street crowd that use it for news, market information and gossip. “The investor class is probably warmer to Twitter than they were to Facebook, and people were crazy over Facebook,” Walters said. “The fact that it’s not nearly as big an offering as Facebook is good.”

“Facebook is neat and Twitter is essential,” said Hogan. “People use it as a news service now. That’s how they stay current. I don’t stay current following which restaurant my cousin likes. I care what’s going on in the news.”

So far this year, there have been 182 IPOs, compared with128 for all of last year and 125 the year before, according to Renaissance.

“We expect to finish the year with over 225 IPOs raising $50 billion in proceeds and that will make 2013 the most robust IPO market since 2000. At the high end of the proposed $23-$25 range, Twitter would raise $1.75 billion, making it the third largest IPO of the year, and its market capitalization would be $17 billion making it the most highly valued IPO since Facebook,” according to Smith.

So far this year, IPOS have had an average return of 33 percent, while its own Renaissance Capital Global IPO Fund is up 42 percent.

“Twitter may be the top of the IPO market for the year, but it’s that time of year,” said one trader, adding stock offerings typically slowdown in December but they are likely to pick up again in the first quarter.

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  Most people don’t start saving in meaningful amounts until a decade or two before retirement, which severely limits the power of compounding. That’s unfortunate, and there’s no way to fix it retroactively. It’s a good reminder of how important it is to teach young people to start saving as soon as possible.

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• Future market returns will equal the dividend yield + earnings growth +/- change in the earnings multiple (valuations). That’s really all there is to it.

  The dividend yield we know: It’s currently 2%. A reasonable guess of future earnings growth is 5% a year. What about the change in earnings multiples? That’s totally unknowable.

  Earnings multiples reflect people’s feelings about the future. And there’s just no way to know what people are going to think about the future in the future. How could you?

  If someone said, “I think most people will be in a 10% better mood in the year 2023,” we’d call them delusional. When someone does the same thing by projecting 10-year market returns, we call them analysts.

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• Someone who bought a low-cost S&P 500 index fund in 2003 earned a 97% return by the end of 2012. That’s great! And they didn’t need to know a thing about portfolio management, technical analysis, or suffer through a single segment of “The Lighting Round.”

  Meanwhile, the average equity market neutral fancy-pants hedge fund lost 4.7% of its value over the same period, according to data from Dow Jones Credit Suisse Hedge Fund Indices. The average long-short equity hedge fund produced a 96% total return — still short of an index fund.

  Investing is not like a computer: Simple and basic can be more powerful than complex and cutting-edge. And it’s not like golf: The spectators have a pretty good chance of humbling the pros.

  3. Simple is usually better than smart

• Most investors understand that stocks produce superior long-term returns, but at the cost of higher volatility. Yet every time — every single time — there’s even a hint of volatility, the same cry is heard from the investing public: “What is going on?!”

  Nine times out of ten, the correct answer is the same: Nothing is going on. This is just what stocks do.

  Since 1900 the S&P 500 (^GSPC) has returned about 6% per year, but the average difference between any year’s highest close and lowest close is 23%. Remember this the next time someone tries to explain why the market is up or down by a few percentage points. They are basically trying to explain why summer came after spring.

  Someone once asked J.P. Morgan what the market will do. “It will fluctuate,” he allegedly said. Truer words have never been spoken.

  4. The odds of the stock market experiencing high volatility are 100%

• The vast majority of financial products are sold by people whose only interest in your wealth is the amount of fees they can sucker you out of.

  You need no experience, credentials, or even common sense to be a financial pundit. Sadly, the louder and more bombastic a pundit is, the more attention he’ll receive, even though it makes him more likely to be wrong.

  This is perhaps the most important theory in finance. Until it is understood you stand a high chance of being bamboozled and misled at every corner.

  “Everything else is cream cheese.”

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