I had a call from a lady client a few hours before the Facebook (ticker FB: issue US$38) IPO launch earlier this week. She said that her sister had rung her to suggest that they both participate in Facebook because "it seems such a good idea". What did I think of it? Well, it's the answers to these questions that I get paid for, although NOT for much longer thanks to the Financial Services Authority RETAIL DISTRIBUTION REVIEW (more on RDR later!).
The lady client isn't one of the more fundamental or technically minded type of clients. The sort of conversation that I was preparing in my mind mirrored the type of conversation that most people might have with their dentist. How big is the hole? Quite big. Does it need a filling? Yes. A small one. And before one can comment the dentist has plugged the hole and sent one on one's way.
I told her straight. This is blunt broker speak when one can see a raw deal..."I wouldn't touch it with a barge pole." -"Why?" The lady enquired. "It's on a price/earnings ratio of around 10 times that of Apple or Google and Facebook doesn't in fact make anything. It has limited earnings and is 100% reliant on advertising revenues which could disappear at the flick of an eye if the depression that I think we're beginning to witness gets hold." I should point out at this juncture that for months now I've seen ALL kinds of experts roll up on my Bloomberg TV channel saying what an exciting IPO Facebook is going to be. The bull commentators outnumbered the bear commentators about 5:1. But I didn't need anyone to tell me this because I have pretty compelling experience of knowing how Wall Street operates and more importantly how it is supposed to operate. I then told the lady that I didn't expect to see a large premium over $38 (the pundits were all saying $45-$50), thought that it was too late to get an allocation anyway and on a two year view "I wouldn't be surprised to see FB trading at $5 to $10. It's looking nigh on impossible to monitarise alot of Facebook's traffic." Enough said. The conversation then moved on to more enjoyable topics such as her family and art exhibition. For record I got no business from this conversation and actually didn't achieve any commission either. I wonder how many brokers are left in the business who turn orders away as I had just done! The old brokers who taught me the basics used to always say that broking is 50% business and 50% turning away business BUT this is not how Wall Street works anymore nor indeed what is left of Threadneedle Street.
There's been alot of debate recently about how IPO's (new issues) and Secondaries (these are probably better known as rights issues, placings, entitlement offers) should manifest themselves in the modern world where the internet is such an important aspect to distribution. It's clear that fund-raising and listings everywhere are malfunctioning. Why is this happening? There are regulators and investment banking names with the supposed kudos and credibility to ensure that shareholders are ALL treated the same way on a level playing field. Unfortunately the reality is very different. In 1980's my father, a respected London stockbroker, specialised (note I don't use the word "expert") in US market and at the time there was an abundance of IPO's. Most of the major US players had offices in London but the UK broking business that my father managed was plugged into brokers in Tampa, Minneapolis and a number of other US cities. It was a people's business then and just about every deal had underwriters in New York. The business was very active indeed because in those days the US houses relied on other brokers almost exclusively for distribution outside their own institutions. The pricing mechanism was determined by whether brokers (effectively clients of the US issuing brokers) thought the deal attractive or not. Contrary to a few "experts" that appeared on Bloomberg this week there were quite a few bio-technology stocks floated on Wall Street in '82-'82 period that had p/e ratios (multiples) of 100 x to 200 x earnings. I heard a few times that the Facebook valuation was "unprecedented". It wasn't! The TMT bubble in 2000 often repeated the same experience.
What was different though is that in the modern market these very same Wall Street goliaths need to rely on retail distribution. None of these 3 major underwriters are renowned as retail specialists anyway anymore (Dean Witter had long ago been absorbed into Morgan Stanley). In fact Morgan Stanley rarely need retail at all. It now appears that 25% of the allocation was given to private punters as the Street calls them. This is a big "HELLOOOOO" and why anyone couldn't see this or make a judgement beggars belief. Incidentally because hedge funds now dominate IPO's pretty well everywhere one doesn't need to be a rocket scientist to work out that they'll be on the SHORT SIDE within days or even hours or minutes. The current legal wranglings over financial information are being investigated by SEC but I'd be surprised if Morgan Stanley or any of the underwriters did anything wrong. The scale of the issue was vast but the mechanics are always the same. The order flow delayed the float time but this has happened countless times before and is ONLY delayed to ensure a balanced opening market.
What is needed though is a SEC and FSA review (this is really what regulators should be doing) on how IPO's are distributed. For record I haven't had a call from a single US broker for years and if I did then I know that it's a signal that a deal is probably over-priced and about to be shorted by proprietary desks, hedge funds,etc. What is unforgiveable is to allow thousands of gullible US investors to get fleeced in this way.
An old brokers adage is..... "There is no such thing as an EXPERT"
Even the Greeks had theirs....."Beware of ******* bearing gifts"
"If it's TOO good to be true it usually is"
Facebook. Next stop 10 bucks.
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