It's sensationally good news for Facebook and those firms. Facebook in particular is a more attractive buy because it's so much bigger and there's so much more dominance in its market. I have to think that demand for Facebook's stock just exploded in the secondary market.
What is the secondary market, and why is it important?
There is a secondary market for a private company's stock before it goes public. Think of an e-Bay for illiquid securities, like private company stock. It's important because you see a lot of companies postponing going public partly because they've been able to get liquidity in these secondary markets.
Even before trading began, some analysts said LinkedIn was wildly overpriced. Then its stock doubled. How should we think about this?
LinkedIn's stock is consistent with a $9 billion valuation. [Ed: As John Cassidy explains, that estimation comes from taking the market price and applying it to the rest of the company's common shares, which haven't been issued yet.] LinkedIn has the highest price-revenue ratio of any stock anywhere.
What should we be watching for in the next few years to justify this price?
Sooner or later, companies mature, and they end up at mundane price-earnings ratios. The way to think about ratios and multiples for these kinds of companies is to think about Google. It's a hot stock, but it's trading at maybe 14 times its forward earnings. So the question we should be asking is: How much growth is LinkedIn going to have before they end up looking like Google? In order to justify trading at 25-times earnings, you have to get to some pretty good profit margins soon.
In LinkedIn's defense, the "hiring solutions" market is enormous. One analyst pegged it at $30 billion, which makes it bigger than the U.S. beer industry, for example. That implies lots of room for growth.
That $30 billion figure includes a lot of recruiting companies that are highly trusted and aren't going anywhere. I don' t know what kind of market share LinkedIn can realistically take.
Is this a bubble?
That has to be a concern. We're going into a period again where companies are trading at enormous multiples. There's a flood of IPOs and a substantial market correction is possible. But we're clearly not there yet. In fact right now, I think a little more of a bubble would be a relief for the economy.
Is there something behind all this froth in the stock market, like monetary policy or a shift away from buying risky sovereign debt?
I don't think it's monetary policy. I think these are attractive investments because social media is a great story and a tremendously fast growing market. LinkedIn's revenue model is service-based. It's not teenagers playing games, or clicking on pictures, or tweeting. It sells straight to businesses. If you're an investor looking for a sustainable business model in social media, it could well be LinkedIn.