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Why Twitter's high valuation doesn't make sense: Analysts

Despite a recent string of downgrades, Twitter's stock continues to climb.

Shares broke above $60 on Monday and closed at $56.61, up almost 118 percent from its IPO price of $26 in early November. And the stock is now up almost 46 percent from its low of $38.80 in late November.

A trader watches Twitter stock at the closing bell the day of its IPO.
Adam Jeffery | CNBC
A trader watches Twitter stock at the closing bell the day of its IPO.

(Read more: Twitter 'amazing' but overvalued: Analyst)

What is Twitter's stock doing now? (Click here to get the latest quotes for Twitter.)

But Twitter's high valuation just doesn't make sense, some analysts say.

"Either the bankers weren't smart enough to price this right or this could be a feeding frenzy," said Youssef Squali, an analyst at Cantor Fitzgerald.

(Read more: Cramer: Market absolutely smitten with Twitter)

On Monday, Wells Fargo downgraded Twitter to "underperform" and SunTrust downgraded the stock from "buy" to "neutral."

"The stock has more than doubled since its IPO and in the last two weeks it has run over 40 percent on really no new significant news that wasn't already expected by the market," Robert S. Peck, the SunTrust analyst who downgraded the stock, said Monday on CNBC. "We just have a tough time paying 300 times EBITDA right now."

Pivotal Research hit Twitter with its first "sell" rating on it's first day of trading when the stock's opening price rose above $45, citing that the stock was simply too expensive.

And Cantor Fitzgerald, which has a $32 price target for the stock, downgraded Twitter from "buy" to "hold" when the shares were trading in the $40 range after two weeks of trading.

"We have no issues with the business model. But with valuation, we very much have an issue," Squali said. "These guys have grown 100 percent. Great. But they aren't generating any money."

And it's unlikely the company will start generating non-GAAP earnings for another three to four years, he said.

"The first data point we are going to get out of the company will be their earnings at the end of January or in early February and the number they put in front of us will help us determine where this thing goes," Squali said.

And one thing is certain, the higher the stock goes, the higher the expectation will be for earnings.

At its current levels, the stock is priced for perfection and must dramatically outperform expectations and its expectation is already at 100 percent growth, Squali said.

He added that for his firm to even change its rating, Twitter's stock would need to show more than 103 percent growth. In addition to earnings pressure, Twitter may also have to prove that it can sustain its high valuation under economic pressures.

"All it takes is to go through a hiccup in macro and people are going to want to hide somewhere with an earnings story. Well, this one doesn't have an earnings story," Squali said.

"We are bound to have a pullback at some point in the next three to four years. And people are going to be running to much less volatile earnings rich stories."

On the flipside, though, Twitter's soaring valuation makes other Internet names look more attractive, analysts said.

(Read more: Facebook to roll out video advertising in test)

"With regards to Twitter, we are actually short it right now. If Twitter is worth this much, it makes us feel that much better on our Facebook position," said Dan Niles of AlphaOne Capital Partners. "This move, to me, looks a little parabolic, but the good news is we own a lot of other Internet names, like Yahoo and Google."

Squali said that between Facebook and Twitter, his firm likes Facebook a lot more because it's less than half the price on a relative basis and has a much higher rate of user engagement.

He added that Google and Facebook were his top two picks.

"The higher Twitter goes, the cheaper these stocks look," Squali said.

By CNBC's Cadie Thompson. Follow her on Twitter @CadieThompson.

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