Wednesday, July 29, 2015

The Madness of Wall St.

Wall St. often seems to operate in a parallel universe, in which it makes rules that only it can comprehend. The valuation of listed public companies is one great example.

Even if a company has rising profits and revenues, it can be punished with a stock downgrade by Wall St. analysts.

Here are a couple of recent examples of just how insane Wall St. is, as are the markets it controls:

Apple’s profit surged 38%, and its cash reserves rose to a record $203 billion in the fiscal third quarter. The company sold 47.5 million iPhones, or 35% more compared with a year earlier.

Apple’s profit in the quarter rose to $10.7 billion from $7.74 billion in the year-ago period. Revenue also jumped 33% to $49.61 billion.

Yet, because its sales and revenues missed some analysts’ estimates, Apple’s shares fell as much as 7% in after-hours trading, quickly erasing about $60 billion in market value.

In essence, Apple did really, really well in the most recent quarter ⎯ remarkably well ⎯ yet it was still punished. Despite Apple’s excellent performance, it just wasn’t excellent enough for Wall St.

Another example:

Facebook is now more valuable than General Electric.

With a market capitalization of $275 billion, Facebook is now bigger than GE, which has a $273 billion market cap.

GE, a company that makes tangible products - including jet engines, power and energy grid equipment, major medical equipment and devices, and the home appliances that are utilized in tens of millions of homes - has been surpassed in value by a company that makes nothing tangible.

In fact, Facebook is a free service that merely allows people to share “status updates,” such as selfies, cat videos, and pictures of their food.

GE racked up $149 billion in sales last year and employed more than 300,000 people. Meanwhile, Facebook reported $12.5 billion in sales and employed roughly 9,200.

Despite this, Facebook trades at 49 times expected 2015 operating earnings and at 37 times expected 2016 operating earnings.

GE, on the other hand, trades at close to 17 times expected 2016 operating earnings.

It's fair to say that Facebook is wildly overvalued. Yes, the Tech Bubble is alive and well, folks.

In the words of investment guru Jeremy Grantham, "Facebook is not the new steam engine." In other words, it will not radically alter economic growth or productivity.

GE is the only component of the Dow Jones Industrial Average today that was part of the original Dow in 1896.

Facebook was created in a Harvard dorm room a little over ten years ago.

In the rational part of the universe, it’s difficult to reconcile Facebook being valued above GE. But it doesn’t end there.

Facebook’s market cap is now $40 billion larger than that of Wal-Mart, America’s largest retailer and employer.

The fact that Facebook is valued higher than GE and Wal-Mart is totally detached from reality. It speaks to the absurdity of Wall St. and its analysts.

They all live in an echo chamber of madness.

These examples serve as just the latest reminders: Never trust Wall St.

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