Twitter Stock Looks Set For A Correction Now. Here's Why

Twitter Inc (NYSE:TWTR) stock is facing strong resistance and is overbought. Twitter shares are running up on buyout speculation. Should you sell TWTR stock?

Twitter stock - time to book profits

Shares of San Francisco, California-based Twitter Inc (NYSE:TWTR) have run up quite a bit lately. However, there isn't any material news to speak of, except one, which is centered around buyout speculation. We've seen this happening on a number of occasions with Twitter, where M&A speculation drives valuations for a short while. However, none of these rallies have sustained for a longish period. Twitter shares have in the past, given back such gains, and if you look at the current technical setup, a correction seems to be on the cards.

Twitter Stock Is Overbought And Faces Strong Resistance.

Twitter stock is facing strong resistance from its 200 day Simple Moving Average (SMA) at 17.08. Shares of the social media company have been trying to break out above this resistance level for a number of days now, but have failed to do so. The 200 day SMA had served as a support level in early July this year, and the stock hasn't fallen below this level until recently. Due to the change of polarity, the 200 day SMA has now become a strong resistance level.

TWTR stock technical chart Aug 31


Further, the stock is also overbought, which may be adding to the resistance. If you look at the Bollinger Bands, a popular momentum indicator, Twitter's stock price is touching the upper Bollinger Band. This is commonly considered as a signal of overbought condition, and is a bearish signal. Based on these technical indicators,  the stock looks set to move lower in the coming days.

TWTR stock Bollinger Bands chart Aug 31

The latest available short interest data also suggests that bearish sentiment around the stock is also growing. The latest set of short interest numbers are as of mid August, and became available on the 24th of this month. The data shows that short interest in Twitter stock jumped 6.3% to touch 55.16 million shares, up from 51.87 million shares. Short interest now stands about 8.7% of Twitter's float. Days to cover is about 3.3 based on trading volume data from Google Finance. This could be a potential trigger for short covering in case of a rally. However, given that the recent rally seems to be based almost entirely on buyout speculation, a rally may not last long unless it's backed up with official announcements by Twitter.

This round of buyout speculation seems to have started after Market Realist carried a news story titled "Reasons to Acquire Twitter Still Exist", in which the author has quoted Richard Greenfield of BTIG. According to the post, Greenfield has reportedly told Business Insider "that he would be shocked if Twitter wasn’t acquired within two years." While it's possible that Twitter may get acquired, to us, it seems unlikely, given that nothing has really improved for the micro-blogging site over the last year or so. In fact, things have only gotten worse. Revenue has started to decline year on year, while losses continue to remain heavy. Twitter's user base isn't growing, at least based on the hard numbers that are publicly available. And while the management claims that Daily Active Users (DAUs) are growing, there's no real way to assess the improvement, because we don't have the absolute numbers at hand.

If you look at it from a pessimistic perspective, the growth in DAUs could have happened simply because last year's numbers were really bad. And since we have neither the sequential growth rates, nor the absolute numbers, there's just no way to be certain that's not the case. When pretty much every number looks bad, it's best to be prudent and view the apparently 'good' numbers with skepticism. On the whole, not much has improved, expect the fact that Twitter now produces positive operating and free cash flows on a consistent basis, which suggests they don't face an existential threat at the moment. Further, the data licensing business has been doing well for the company, which is a big relief.

While data licensing revenue still accounts for just about 15% of Twitter revenue, the business is important in the context of curbing Twitter's GAAP losses. "$1 in data revenue is equal to about $3 to $4 in advertising revenue, given the difference in profitability," according to Twitter CFO Anthony Noto, quoting from the company's second-quarter earnings call. For now, though, that's only a saving grace. The licensing business alone can't turn things around for the company, and as most of us know, advertising revenue is declining, and looks set to decline further in the coming quarters. As things stand, Twitter looks like a struggling business, which gives very little incentive to potential suitors to buy it at these valuations (excess of $12.5 billion). For now, investors would do well to book profits and avoid Twitter stock.

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Vikram Nagarkar Vikram Nagarkar   on Amigobulls :

Neither Amigobulls, nor any members of its staff hold positions in any of the stocks discussed in this post. The author may not be a certified/registered investment advisor, and the opinions expressed should not be treated as investment advice.

Buying and selling of securities carries the risk of monetary losses.Readers/Viewers are advised to carry out their own due diligence and consult their investment advisors before making any investment decisions.

Neither Amigobulls, nor the author have any business relationship with any of the companies covered in this post.

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