Jan 11, 2021

Tesla skeptics are capitulating

Elon Musk surpasses Jeff Bezos as world's richest person


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Tesla Inc. has been heaven for investors who held the stock during its roughly 800 per cent ascent over the past year. For sell-side analysts who cover the electric carmaker the experience has been rather more chastening.

Even after several prominent number crunchers revised their comparatively bearish forecasts last week, the average share-price target among those that cover the company is still almost 50 per cent below the current level. Only one-third of those who cover the stock recommend buying it, a percentage that hasn’t varied much over the years. (For comparison, almost all analysts that cover Inc. have a buy recommendation.) 

I’m worried that if the brokerages collectively get more bullish, the stock risks becoming totally untethered from financial fundamentals, allowing a bubble that’s driven partly by speculative options trading and momentum strategies to inflate even more. Even Chief Executive Officer Elon Musk warned last year about the richness of Tesla’s share price, and that was when its value was a fraction of what it is now.

Wall Street analysts are an inherently optimistic bunch (brokers make money when investors buy stocks) and they might feel pressure not to be too critical of companies lest management deny them access (or worse bar their employer from facilitating debt and equity raises).  

In Tesla’s case, the sell side has been unusually skeptical but this has left them chasing behind the stock. Investors who followed their advice not to buy have missed out on enormous gains. Tesla has added more than US$150 billion in market value in just the past week and, factoring in the potential increased share count from stock options it’s now worth more than US$1 trillion.

“There is no graceful way to put this other than to say we got TSLA’s stock completely wrong,” RBC Capital Markets analyst Joseph Spak wrote last week. His peer, Evercore ISI analyst Chris McNally, confessed he’s been “on the considerably wrong side of TSLA for over a year now,” and almost trebled his price target to US$650. On Monday, Credit Suisse Group AG analyst Dan Levy doubled his target price to US$800. The stock closed last week at US$880. 

To Tesla supporters these mea culpas will be seen as confirmation that auto sector analysts have never properly understood the company. Tesla’s ambitions extend well beyond building cars to encompass things like solar power and energy storage. Yet the analysts covering the stock are mostly car industry experts.

Musk has encouraged his followers to ignore what Wall Street says and chastised these financial interlocutors for asking “boring boneheaded” questions on earnings calls.

“I do think that a lot of retail investors actually have deeper and more accurate insights than many of the big institutional investors and certainly better insight than many of the analysts,” Musk said last year. Who needs expensive advice from a big-name investment bank when there’s Reddit?

Tesla’s prospects have improved lately: Its manufacturing struggles have abated, the balance sheet is more secure and it has chalked up several quarters of profitability. Joe Biden’s election should mean U.S. policy becomes more favorable toward electric vehicles. However, none of this justifies valuing Musk’s company at an eye-watering 27 times its expected revenues for 2020 (for context: one of Tesla’s biggest competitors, Volkswagen AG, trades on 0.3 times sales). 

Spak’s awkward explanation for abandoning his bearish stance spoke volumes: He said his biggest miss was underestimating Tesla’s ability to “take advantage of its stock price to raise capital inexpensively and fund capacity outlays and growth.”

In other words, he failed to anticipate Tesla’s stock would surge to such lofty heights and thus enable it to print money without diluting existing investors too much — Tesla raised about US$12 billion from stock sales in 2020.

You know Alice has reached Wonderland when one of the chief arguments for buying a stock is the cash it can generate from issuing even more stock. To be clear, this certainly is a big advantage compared to VW and other traditional automakers that have to fund investments by selling cars. Tesla isn't unique though in this regard: Chinese automaker NIO Inc. and a slew of new entrants backed by special purpose acquisition companies have exploited investor fervor to raise money cheaply too.

The more bullish Tesla analysts typically ascribe a lot of value to activities such as autonomous ride-hailing, third-party power train sales, energy and insurance, some of which are small or don’t exist yet. “Think of Tesla as an ESG or climate-change innovation ETF,” says Morgan Stanley’s Adam Jonas who cryptically calls Tesla the “Chosen One.”

Fortunately, others remain dogged in their unfashionable and more circumspect views. “At the end of the day, investments are worth the discounted value of their future cash flow,” JPMorgan Chase & Co. analyst Ryan Brinkman told Bloomberg News’s Esha Dey recently. Brinkman’s US$105 price target is more than 85 per cent below the current level.

Barclays analyst Brian Johnson’s US$230 price target reflects execution risks and the competition Tesla will encounter from other automakers. He’s the first to admit that his warning that Tesla’s rise is reminiscent of the dotcom bubble makes him sound like a boring “OK, boomer,” but it doesn’t mean he’s wrong.

In truth, portfolio managers don’t always pay a lot of attention to the target price analysts put on a stock. The top-rated analysts aren’t always the best stock pickers: It’s the quality and originality of their analysis that matters.

So I hope Brinkman and Johnson resist external pressure to get with the “new paradigm” because the market is healthier when there’s a plurality of views. If the sell side capitulates and provides an after-the-fact justification for Tesla’s inexplicable surge, then Tesla risks becoming totally unmoored. And then retail investors who bested the analysts last year really will risk getting hurt.

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

Chris Bryant is a Bloomberg Opinion columnist covering industrial companies. He previously worked for the Financial Times.