NEW YORK (CNNfn) - Many experts say you'll have more luck searching for something simpler -- such as the meaning of life, the Holy Grail or the fountain of youth -- than trying to determine why Internet stocks move the way they do.
But two academics, one on each coast, are working toward a better understanding of why Internet stocks move like they do. The stocks have strong reasons, they both conclude. Whether the reasons make sense, they don't know.
"Anyone who says they know what's going on, I don't think is being entirely truthful," said Brett Trueman, an accounting professor at the University of California at Berkeley's Haas School of Business. But at least he and John Hand, an accounting professor at the University of North Carolina's Kenan-Flagler Business School, are trying to pin down that the reasons are there.
Skeptics sing same tune: Where's the rhyme or reason?
Can you predict Net stock prices? "Of course not," said Al Goldman, chief market strategist with A.G. Edwards. "All you can say is which companies are acting well, go over their business model, decide if they're in the right sector of the market. Then you decide whether your cardiovascular system can stand it."
The boom is justified because we're basically at the top of the second inning of the second Industrial Revolution, Goldman continued. But no one has seen an economy produce such big gains so quickly, unless you were around in the 1910s when Henry Ford started out.
The outlook for corporate-earnings growth is what drives tech stocks, same as any stock, Goldman said. But specifics get tricky. Like many on Wall Street, he thinks there's a hefty dose of irrationality driving computer-oriented shares.
"These are very emotionalized stocks," he said. "Emotions are made up of human beings, and we're all a little nutty. And our fear and greed runs all over the place."
Many investing professionals go further, saying there's no real basis to tech-stock prices. Old valuation methods have been shredded, about as useful as yesterday's newspaper in predicting prices. Many suggest there's no new method, just the madness of a popularity contest.
 Tech skeptics say fundamentals such as the income statement appear to matter little -- stock prices go up when losses get worse, for instance. Other factors such as Web traffic seem to drive prices but in wholly unpredictable ways.
Factors that matter ...
But researchers Trueman and Hand, using different sampling and methods and coming up with different specific results, the message is the same.
"Tech stock prices aren't just made up," Trueman said. "The message that financial data is important and nonfinancial data does add significantly [to determining prices], that message is clear."
Hand says he's "intrigued" by people who think fundamentals such as earnings and revenue don't matter. "There's a sense out there that the accounting doesn't really communicate much," he said. "In fact, that's not true."
The first version of his findings showed that factors such as a company's book value and profit have a powerful effect on the stock price. But sometimes it's an unusual one -- a company with losses sees its price go up as losses increase. Investors see spending on research, development and marketing as positive, even though it makes losses worse, Hand explains.
Now he has the results of a "horse race" he set up. Hand wanted to find whether accounting figures are more important than other factors that could drive prices, such as Web traffic and demand for the shares.
All of those factors do drive prices, he concludes, but the accounting numbers are the most important. In fact, they explain two to four times as much of the variations in price.
Demand -- as shown by the size of the offering of shares available, the interest in shorting the stock and the institutional interest -- is more important than the Web traffic, according to Hand. But both are important in explaining differences between companies.
... whether or not they should
What Hand and Trueman don't know is whether the factors driving Net stocks should matter. They just know they do matter.
The fact that demand matters shows that tech prices have "fluff" to them, Hand said. If stocks have genuine operational results driving them to a "proper" value and investors act sensibly, it wouldn't matter how many shares are available. Investors would work out the right price and wouldn't buy overpriced shares.
Hand's data backs the theory up -- it shows that demand, the "fluff," doesn't matter for non-Net stocks. It also matters less for business-to-consumer Net companies than business-to-business companies. In academic speak, b-to-c stock prices are more "efficiently priced."
That makes sense to Hand. "For companies with consumers, people know what they are," he said. "Consumers do know how they should be priced. And the more awareness the public has of what the company is up to, the less fluff factors matter."
B2C stocks priced more sensibly than B2B
Business-to-business companies are harder to analyze. "For business to business, investors and the market may not know as much about them. Consumers don't know about them," he said.
For instance, B2B companies have few Web stats, particularly that an investor can use to predict how the company is doing.
Web stats -- the share of American households a company reaches and the number of unique users it has -- drive prices, particularly for B2C companies. The more traffic they get, the more their stocks rise. But the relationship is "concave." As traffic grows, the returns from more traffic diminish.
Of course, it's best to use all three factors: the accounting data, the demand for the shares and the Web stats. With all three, Hand figures he can account for 51 percent of the fluctuation in tech-stock prices.
A closer look at how Web traffic works on prices
Trueman focused more on the Web traffic, which he gives more credence to than Hand. He also looked at different kinds of Web companies, finding that increased traffic has a much bigger effect for e-tailers. For Web portals and content providers, profit is more important than traffic.
E-tailers also may have a stronger "negative relationship" with results, with bigger losses seen as good news. Trueman thinks the effect is less meaningful than Hand and doesn't apply to other tech companies.
Still, Trueman agrees that accounting numbers and Web traffic are worth watching.
"You don't want to look at bottom-line net profit just by itself," he said. "When you decompose it [the income statement] into line items, you do see significant relations."
Gross margins are important, for instance, he finds. Stocks such as Amazon.com (AMZN: Research, Estimates), Webvan (WBVN: Research, Estimates) and eToys (ETYS: Research, Estimates) got slammed when investors realized gross margins were low even once the big startup development costs passed, he said.
Trueman is trying to quantify how much the patterns he's found affect the stock price. Like Hand, he also wants to find out whether it makes sense.
For now, "Investors in Net stocks should be heartened that Net stock prices are rooted in economic method," Hand writes. But investors should realize that fluff not only happens with Internet stocks, it matters, too.
-- Click here to send email to Alex Frew McMillan
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