Beware Of The Fake Rally In These Stocks

January 25th, 2013 by Wall Street Daily

Submitted by Wall St. Daily as part of our contributors program

This is quite a bull market. After the post-election dip, the S&P 500 has rallied 10.45% since November 15.

You may have also noticed that social media stocks have performed even better over that time. For example…

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Facebook (FB) has jumped 39%. LinkedIn (LNKD) is up 19%. Yelp (YELP) is up 18%. Pandora (P) has surged 48%. And Groupon (GRPN) shares have bounced by 75%.

So why is this happening?

A Rally Built on Sand

Well, it’s not because social media companies have announced a slew of new products and services. Yes, Facebook previewed its Graph Search, but the stock was already rising and shares haven’t done much since the announcement.

And it’s definitely not because these companies have learned how to make money.

So while the share price gains are impressive, a closer look reveals that this rally doesn’t really have a solid foundation.

The truth is, no one has actually changed their mind about social media companies. They’ve just changed their mind about risk.

We can trace this risk outlook back to 2008 when the financial crisis hit. That year was the first time that all financial assets moved together. Everything – stocks, bonds, currencies, and gold – fell and rose in tandem.

Since the financial crisis, this so-called “risk-on, risk-off” trade – in other words, an “in or out” mentality – has held greater sway over the market and has driven its broad direction.

The rally we’re seeing in social media stocks is clearly “risk on.” Investors are willing to take on riskier assets.

And expensive social media stocks with uncertain futures certainly qualify among the riskiest stocks in the market!

So make no bones about it… This rally is not a vindication of the social media business model. And it doesn’t necessarily portend a great future for any of these stocks, because the likes of Facebook haven’t overcome any of the challenges they face.

Simply put, these stocks are rising because investors are willing to take on more risk.

So if you want to invest in them, realize that your outcome – in any time frame under five years or so – won’t be determined by the future of social media. It will be determined by the risk appetite of global investors. That’s the trade you’re making.

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