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TheStreet Open House

Buying Twitter Without a Roll Cage

Stocks in this article: TWTR TMUS DISH GLW

NEW YORK (TheStreet) -- If you haven't paid attention to Twitter's (TWTR - Get Report) stock price lately, you're missing a spectacle. The last time I witnessed mindless price action like this was during the BP (BP) gulf spill. All stocks are influenced by emotion, that's expected, but Twitter wins the medal for most extreme of 2013, hands down.

For the active trader, Twitter is the perfect stock. Extreme volatility combined with massive volume can only result in one outcome, an efficient speedy transfer of wealth from the dumb money to the smart money. Some will say the valuation is out of line and oxygen is required because the current valuation places the blue bird above T-Mobile (TMUS - Get Report), Dish Network (DISH - Get Report) and Corning (GLW - Get Report).

[Read: Jim Cramer: Ride the Four Horsemen of Biotech]

Having a market cap greater than other technology companies may not be fascinating on its own; however, Twitter is the only one of the group that isn't expected to post a profit next year. If Twitter does manage to post a profit in 2014, or the next, the price-to-earnings ratio will be at least in the triple digits. To put a triple-digit P/E ratio into context, a ratio above 20 is historically expensive in the long run.

The odds of buying a multi-billion dollar market cap stock with a P/E above 100 and profiting after holding for much more than a day-trade quickly approaches zero as the P/E increases. For most Twitter traders, it doesn't matter because they don't intend to hold for days, much less months. Since Twitter's share price is apparently fueled by speculation and emotion right now, a trader can get long or short and profit.

By using options instead of buying stock directly, investors can limit the level of exposure while avoid becoming the next stop-loss roadkill victim.

If you don't look at charts all day, every day, you may have to take my word for it, but Twitter's running of stop losses were so predictable in the last few days that some of my trading revolved around it. For example, near the end of the day, the price dropped from approaching $64 a share to close at $60.51. At each price level, shares dipped below and then exceeded the level before continuing lower. As an active trader, I could buy the dip below and close out just above the level. The same could be done in reverse on the way up.

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