Hooray for Facebook -- now unfriend the stock

The social network provided a nice earnings surprise and a big gain for investors, but perhaps it's time to sell the news.

By TheStreet Staff Jul 26, 2013 1:30PM

thestreet logocopyright William Andrew, PhotographerBy Marc Courtenay

 

Back when I was a financial advisor, the seasoned stock market veterans would say confidently, "Buy the rumor and sell the news."

 

Perhaps the latest version of this adage is "Buy the scary rumors and sell the big upside earnings surprises." That's what I did lately with my shares of Facebook (FB), and I won't be looking back.

 

Having purchased shares at $28.76 only to watch them fall below $23 didn't bother me that much since I had a stealth 25% trailing stop-loss alert set up (TheStreet).

 

If shares had fallen to around $21.57, I was going to act on my convictions and cut my losses. Thankfully, shares drifted higher before I hit that 25% trailing stop loss, and Thursday, July 25, they spiked 28% higher.

 

Normally, I would have tightened my stop loss down to 15% to protect my gains, but I realized if I did, with the price at $33.68, and assuming it was a temporary top, I'd be stopped out below the price I paid for it. So I locked in my gains by selling.

 

My crystal ball is still at the repair shop and I don't know if FB shares are going higher from here or not. With shares now trading at a PE ratio of around 259 and the share price up almost 50% since the June 6, 2013 intraday low of $22.67, I chose to sell. If I owned a substantial position I would've only sold half.

 

Alas, my meager position wasn't large enough, in my estimation, to split, so I parted company with all my shares at $33.68. My premise for selling is based on Newton's Third Law of Motion.

 

Sir Isaac Newton may have been a stock market investor, but even if he wasn't, his Third Law of Motion spoke to me: "For every action there is an equal and opposite reaction."

 

Time will tell me if my instincts about Facebook were correct. If the stock keeps going higher, I'll be chastised by Newton's First Law of Motion, sometimes referred to as the Law of Inertia.

 

That law says that an object in motion will not change its velocity or direction unless acted upon by an external force as powerful or more powerful. That "force" may be FB's selling volume.

 

Thursday's trading volume by 2 p.m. EST was over seven times the average daily (three-month) volume of 37,580,200 shares. It may be nine times greater by the close. Volume accelerated when FB hit its intraday high of $34.

 

As the chart below corroborates, the share-price ride for FB shareholders during the past 12 months has been disturbing from a gastrointestinal perspective. Some days it was blamed for acid reflux. 

 

fb chart

 

In the last quarter, sales at Facebook grew 53% to $1.81 billion from the year-ago same quarter. Sales profits were goosed by a big increase in mobile and local ad sales.

 

The company posted a profit for last quarter of $333 million, or 13 cents per share. Its mobile advertising business increased by 75% and was a big contributor to sales growth. It made up 40% of Facebook's ad sales.

 

It's hard to compare Facebook with other companies. The closest comparison might be LinkedIn (LNKD), which reports its latest quarterly earnings after the market closes on August 1.

 

LNKD shares are trading above $200, at a price-to-earnings (P/E) ratio of an astounding 793. That means the stock sells for approximately 793 times what it earns per share (EPS).

 

That beats Netflix (NFLX), which trades at 604 times earnings. The chart below illustrates the one-year price movement of both stocks. 

lnkd vs nflx

 

Visionary investors who purchased shares of LNKD last September have 100% plus gains. Netflix investors who may have purchased at the same time at around $60 a share have over 400% gains! Amazing!

 

Since I'm not one of the investors who purchased either LNKD or NFLX last September, I'm qualified to be one of those "drips under pressure" (ex-spurt) when it comes to whether to hold or sell Facebook.

 

Thus I encourage you to do what you believe is best with Facebook and don't do as I did just because I did it. There are scores of articles out there with opinions, statistics and biases to compare to mine.

 

All I know is what I read and heard from Wednesday's earnings call. Facebook's number of daily active users soared 27% from the year-ago quarter to nearly 700 million. It won't be long till that number hits 1 billion.

 

In fact, Facebook says that the number of monthly active users leaped 21% during the last quarter to an astounding 1.16 billion. Can you imagine the ad sales potential in the quarters to come?

 

If shares of Facebook drift lower over this correctional stock market season -- which often goes through November -- I may be able to buy back my shares at more attractive prices.

 

Its next quarterly earnings call should be toward the end of October. Hey, maybe I'll get lucky, with another fiscal cliff looming and a debt-limit standoff between Congress and the White House?

 

How lucky might I get with a stock like Facebook? Perhaps a chance to buy back at $27 is certainly in the realm of possibility. Facebook might agree, based on comments made during the earnings call.

 

It threw water on expectations going forward, and even warned that next quarter it would face more stringent comparisons. Advertising for its main news feed channel began to significantly affect revenue in the second half of 2012. That will be what the next quarter will be compared against.

 

At the time of publication, the author was neither long nor short any stock mentioned in this article.

 

 

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