Twitter Downgrades Defy Wall Street's Typical Bullishness

Twitter Inc.(TWTR)'s big rally hasn't swayed Wall Street analysts, who remain unusually pessimistic on the stock's next move.

Shares of the microblogging site have more than doubled from the $26 initial public offering price in November, jumping as high as $74.73 late last month. And yet, investor excitement has been greeted by a drumbeat of pessimism from stock analysts.

In the past two weeks, three Wall Street firms have downgraded the company to the equivalent of a sell rating, mainly due to valuation concerns.

"Shares are too rich in our view," says John Blackledge, an analyst at Cowen & Co., which started coverage of Twitter on Thursday with a sell rating and a $32 price target.

UPDATE: Shares closed down 3.8% at $57.05. The stock has dropped all four days this week and is down 24% from last month’s record high.

Overall, eight of the 27 analysts who cover Twitter, or 30%, have sell ratings on the stock, according to data compiled by FactSet. By comparison, only eight companies in the S&P 500 stock index face a higher percentage of sell ratings. Twitter isn't in the S&P 500.

Wall Street analysts are typically a bullish bunch. Of the 10,706 ratings on S&P 500 stocks, 50% of them were buys, 45% were holds and 5% were sell ratings as of Dec. 31, says John Butters, senior earnings analyst at FactSet.

When stocks rally sharply, analysts usually jump on the bandwagon and increase their targets to keep pace with the gains. Twitter defies the norm. Only 26% of Twitter ratings are buys, 44% are holds and 30% say sell.

"In a world where almost nobody says anything bad about stocks and people are saying something bad about this one, you should probably pay attention," says Uri Landesman, president of hedge fund Platinum Partners, which manages about $1.3 billion. He doesn't have a position in Twitter.

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The negative views even dwarf some of the so-called momentum stocks that took Wall Street by storm last year. For instance by the end of October, three of the 15 analysts that cover Tesla Motors Inc.(TSLA), or 20%, had sell ratings on the upstart electric car marker, the highest percentage of the year. Still, that falls short of the current percentage of sell ratings on Twitter.

The downbeat tone on Twitter also is coming from some of the Wall Street firms that took the company public as well as independent analysts. Last month, two of the five firms that served as lead underwriters for Twitter's $2.1 billion IPO came out with "hold" ratings, while another one — Bank of America Merrill Lynch – put an "underperform" rating on the stock.

Earlier this week Morgan Stanley(MS), one of Twitter's underwriters, downgraded the stock to underperform, citing concerns about the company's ability to grow in the crowded online advertising market. The firm's analyst, Scott Devitt, said he prefers Google Inc.(GOOG) and Facebook Inc.(FB) over Twitter.

Meanwhile, Twitter shares could be facing additional pressure in the future. The company’s first so-called lock-up expiration is set for Feb. 15. These agreements, typically between banks that underwrite a new share sale and a company's pre-IPO shareholders, prevent those holders from selling for a certain amount of time after an offering.

Lockups are meant to help manage a stock's price by limiting supply, and to align the interests of early backers and post-IPO investors. About 9.9 million Twitter shares, which are held by non-executive employees, will be eligible for sale in mid-February, according to Youssef Squali, an analyst at Cantor Fitzgerald, who downgraded the stock earlier this week. An even larger lockup expiration looms in May, when 454 million shares will be eligible for sale.

"Considering the run-up in Twitter since the IPO, lock-up expiration…is likely to pressure the stock short-term," Mr. Squali says.

Still, Twitter shares are up 122% over the past two months, a rally that has attracted both individual and institutional investors despite the valuation concerns.

"Many growth stocks throughout their histories have had outsized valuations in their infancy and it took them a couple of years to grow into those valuations," says Tom Donino, co-head of trading at First New York Securities. "People were buying them for their potential, and that's why people are buying Twitter."