Price Targets

Ah, price targets are back in fashion. And stupid investors will fall for them again. It's what we do on Wall Street while we wait for real news.

Analyst Safa Rashtchy at Piper Jaffray made a splash with a $600 target on Google. Not to be outdone, an old competitor of mine, Mark Stahlman (is he still at it?) now at Caris & Co., declared Google will hit $2000, or about a $650 billion market cap. Yeah, maybe.

But all this talk reminded me of a few paragraphs from Wall Street Meat:

[Back in the late 1980's] It turned out that Morgan Stanley sucked at research. The discipline that I had had at Paine Webber, of getting the Buys and Sells right, marketing to clients year round and making 100 calls a month, was nonexistent at Morgan Stanley. The morning meeting was short. There were so few good analyst calls that bankers would come in and pitch their deals. Reports took weeks to get out. Morgan Stanley did OK in I.I., because there were still some remnants from Barton Biggs’ All Star hiring from a decade before. But it was fairly lame. Barton left research to build Morgan Stanley Asset Management into a powerhouse, but without him, research deteriorated.

This turned out to be great for me. The sales force was hungry for interesting calls. You see, the market is open for trading five days a week. Even in holiday weeks, it is guaranteed to be open for four days - during Thanksgiving, there are never two days off in one week. Companies report earnings once a quarter. But stocks trade about 250 days a year. Something has to make them move up or down the other 246 days.

Analysts fill that role. They recommend stocks, change recommendations, change earnings estimates, pound the table – whatever it takes for a sales force to go out with a story so someone will trade with the firm and generate commissions.

For some reason, Morgan Stanley was into price targets. I hated them. To me, they were pure marketing fluff. I would recommend Intel at, say, $25. The first question I would get is “what is my price target.” My answer would be $40 for no particularly good reason. It was high enough to interest investors, but I was guaranteed to be wrong. If it hit $38, it was a great call, but I was wrong. If it went to $60, it was an even better call, but I was still wrong.

What usually happened was that if the stock hit $35, I was asked to adjust my price target to $50, so that the sales force would have a call to go out with. This was how you got target creep, an ever-upward bias on numbers so calls could be made. It would come back to bite Wall Street by the end of the decade.

And then there is this:

Working on Wall Street from the West Coast is an ordeal, especially for those people like me, who like to sleep. Since I was in charge of trading, and the market opened at 6:30 a.m. California time, I had to be up and at ‘em before my breakfast.

In December 1998, I flipped on CNBC as I do every morning for a dose of Squawk Box, to get a pulse of the market. You didn’t need a call from salesmen anymore – all the market impact calls were delivered over CNBC before the market opened. Analysts figured out that CNBC was a better medium to reach clients than a sales force, and it didn’t yell at you like a salesman would. I was skeptical of analysts using CNBC, because it was the old “I’m not paying for research that I can buy for 75 cents in the morning paper,” except that it was on television and free.

That morning, as I dragged a razor across my cheek, the buzz was about Amazon.com. Henry Blodget, an analyst at third-tier CIBC Oppenheimer was pounding the table on the stock, raising his price target to $400. I started laughing and had to stop shaving so I wouldn’t bleed to death.

This was the single most stupid call I had ever heard. I hated price targets, because they were bogus. You used them when you have run out of anything else to talk about, but wanted the attention. Now here was Henry Blodget making a name for himself. I had heard his name before, but only in passing. He was a former journalist. Good for him, he has learned the game quickly, I thought. Amazon’s stock popped 46 points, almost 20 percent that day. Now that’s marketing.

In December 1998, a few weeks after Henry Blodget’s price target splash, thestreet.com decided to do a webcast of an investment panel. In addition to Jim Cramer and editor Dave Kansas, columnist Herb Greenberg would represent thestreet.com. Outside panelists were Henry Blodget from CIBC, Ryan Jacob from the booming Kinetics Internet fund, a guy from Munder whose NetNet fund was also on fire, and me with a view from Silicon Valley.

I flew to New York to take part, breaking an important rule of mine to never travel to New York if snow could possibly be in the forecast. It snowed.

The panel was a lot of fun. Henry pounded the table on Amazon and Yahoo and other “quality” Internet names. I told investors to stick with infrastructure companies, those that sold network equipment, chips, and software to these dotcom companies. Ryan Jacob, who looked about twelve and acted even younger, had some twisted views on spotting advertising trends and page views per share. I decided I wasn’t going to invest in his Internet fund.

I liked Henry. He could talk a mean game. I had been in that game of pitching the same stuff he was pitching, so could easily see the thorns from the roses. That’s OK. He believed in what he was saying, and conviction is important on Wall Street. You rise to the top if you can help portfolio managers buy shares by providing them with your strong conviction. Henry would do well.

In fact, as the year turned to 1999, he was hired away from sleepy CIBC to Merrill Lynch, which was losing the Internet investment banking battle to Morgan Stanley, Goldman Sachs and Frank Quattrone at CS First Boston. By hiring Henry, they were making a statement that they were players. Merrill Lynch needed all the help it could get.

In the midst of growing into technology players, there was even an effort to buy the boutique Hambrecht and Quist. It got shot down by internal politics and some talk that H&Q was doling out hot IPO shares to investors who later did banking business with them – so-called spinning. It smelled like Merrill Lynch wanted to emulate Frank Quattrone, and have a “boutique within a bulge bracket” firm. Now Merrill had Henry Blodget to peddle to dotcom companies.

In 1998 and 1999, there certainly were enough deals to go around. The trick was to have a visible enough analyst who could impress upon companies that they would support them in the market after the IPO. It was all about marketing. One hundred phone calls a month, the “Ohio Death March,” “Sherman’s March to the Sea,” Metroliner to D.C.? Nah. That was too much trouble.

Merrill Lynch hired a public relations firm instead. They got the best in the business, Pam Alexander at Alexander Ogilvy. I have known Pam since the 1980s and would run into Henry at various events and dinners Pam hosted. I offered him some advice, on how to make I.I. (as if it mattered anymore), how to keep on top of stories, get stock picking right and everything follows, hold off the bankers, and even some thoughts on marketing to institutions versus the retail crowd at Merrill Lynch. While he seemed grateful for the suggestions, I’m not sure he was terribly pleased to be offered advice by anyone. He was on a roll.

Then it hit me between the eyes. The mold of a successful analyst was broken. Getting ahead by working feverishly with discriminating institutional investors until your reputation and status were proved  – well, those days were over. The ducks didn’t care about reputation – they simply wanted stocks that were going up, and analysts to pound the table to keep them going up.

Comments

[Bill Burnham]

Hi Andy,

Amen. I hated price targets ... especially when I was wrong about them :-) I will eat my hat (preferably one of the smaller ones) if GOOG is worth $650BN.

Bill

[RichL]

The value of an absurd price target is that the "analyst" gets lots of free publicity for their firm. A good payoff for publicly admitting that you are innumerate.

[Dane Halling]

Interesting article which reminds one how much the game has changed since those heady days. I recall Mark Stahlman from Alex. Brown where he was a proper analyst who saw much of the IT revolution coming 10 years before Henry Blodget was out of school. I agree with you re price targets: calls should be largely directional, with potential price zones, in my view.

[Peter]

Andy,
I'm telling you one thing: I'm a complete finance-newbie,and I entered finance industry from a non-finance background. I just read your book last week, and I'm telling you one thing: you were 99% right in the book ;) keep up the good work and pls contribute to us, younger guys as much as you can. Thx! Peter.

[William F. Zachmann]

Google's valuation is obviously deep in The Twilight Zone. There is no even remotely possible (let along plausible) scenario that could justify current price levels, let alone the absurd "price targets" touted by the latest crop of Wall Street Whores.

All the best,

will

[avi]

There's always been lots of stupid money outthere. GOOG is just another garbage collector.

[David Jackson]

Hi Andy,
Loved your books; loved this post; particularly the parts about Morgan Stanley, as I also worked in as a tech analyst there.

Wanted to ask you whether I can republish this post on Seeking Alpha, the largest network of stock market blogs ( http://seekingalpha.com/ ), with a link back to you in the first line.

Please email me and let me know!

[Kirk]

Doesn't Google make about 95% of its income from those advertisements on the right hand corner of the screen when you search? I don't think I've ever clicked on one of them.
Advertisers aren't given preference in search results -- that is based on popularity.
I think probably 90% of advertisers don't understand this.