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Shares of search engines like have been on a tear this week but investors should be wary.
March 5, 2004: 1:12 PM EST
By Paul R. La Monica, CNN/Money senior writer

NEW YORK (CNN/Money) - Shares of Internet search engine companies have been some of the best performing stocks this week.

This is not a reprint of a story from 1998.

Ask Jeeves (ASKJ: Research, Estimates), (you know, the search engine with the butler?) surged more than 40 percent Thursday after the company announced that it was acquiring competitor Interactive Search Holdings, which owns search engines such as Excite and iWon.

LookSmart (LOOK: Research, Estimates) and (FWHT: Research, Estimates) were up nearly 20 percent. And then there's (MAMA: Research, Estimates), a micro-cap company with no Wall Street analyst coverage., which is dubbing itself the "Mother of all search engines", soared nearly 150 percent Tuesday and another 25 percent Wednesday after the relatively unknown company reported a fourth quarter profit. The stock has cooled a bit during the past few days but shares are still up an astonishing 140 percent this week.

What's going on?

Online advertising is getting better...

To be sure, fundamentals for many Internet stocks, particularly those tied to the lucrative search business, are improving. Online advertising has bounced back significantly, thanks primarily to the popularity of so-called sponsored searches, which allow companies to pay for ad placement tied to specific keyword searches.

Still, the big moves in many small Internet stocks are eerily reminiscent of the late 1990s. Investors are not differentiating between potential winners and losers. They're just buying everything now and asking questions later.

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"A rising tide should not necessarily lift all boats equally," said Derek Brown, an analyst with Pacific Growth Equities. "The outlook shouldn't be the same for every search company."

Brown said Ask Jeeves' acquisition of Interactive Search, for example, is a good move for the company because it would nearly double the company's market share in the online search market. That could help Ask Jeeves compete more effectively against the so-called Big Three in search, Yahoo!, Microsoft's MSN and privately held (for now) Google.

Based on data from comScore MediaMetrix, the two companies' various web sites had approximately 40 million unique visitors in January. By way of comparison, Yahoo! and MSN each had about 110 million visitors, while Google had 60 million.

But the rallies in some other search companies, particularly, had some analysts scratching their heads in bemusement.

" is such a speculative stock. It's the hairdresser syndrome all over again," said Todd Campbell, president of E.B. Capital Markets, an independent research firm, referring to those days in the late 1990s and early 2000 when it seemed like just about everyone had a hot Net stock tip.

...but bigger Net stocks are better bets

So investors need to be careful. Youssef Squali, an analyst with First Albany, said the volatility associated with companies like is a strong indication that day traders and other small momentum investors, and not necessarily big institutions, were the primary driving force behind the big moves.

"Longer-term, the pillars of the Internet, companies like eBay and Yahoo! will continue to outperform," said Squali.

To that end, both stocks have held up well so far this year, considering that they each enjoyed stellar runs in 2003. Yahoo! (YHOO: Research, Estimates) has been flat while eBay (EBAY: Research, Estimates) is up about 6 percent. That's a stark contrast to the other company that is typically lumped in with these two: Shares of Amazon (AMZN: Research, Estimates) have fallen more than 15 percent year-to-date.

Internet stocks
Yahoo! Incorporated
eBay Incorporated

Ethan McAfee, director of research with hedge fund Capital Crossover Partners, said investors seem to be finally realizing that a company like Amazon, while certainly the strongest online retailer, is still just that: a retailer.

As such, profit margins for Amazon are lower than that of Yahoo! and eBay. So a premium price for Amazon doesn't make much sense, McAfee argues. His firm has no position in any of these three stocks.

As for those smaller Internet companies, McAfee said that as long as online advertising rates continue to head higher, the search engine firms probably have more upside in the short-term. But like Squali, he's skeptical about how these companies can compete in the long run with established giants.

"For the second tier search engines, the businesses can do well for awhile but ultimately what will keep people going from Yahoo! or Google?," he said.

And if you follow that logic, you have to wonder what will keep investors from eventually fleeing stocks like

Analysts quoted in this story do not own shares of any of the companies mentioned and their firms have no investment banking relationships with the companies.  Top of page

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