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Social Media Stocks: ‘A Fun Game to Play’ for Traders Says Brown

On Wednesday it was announced that newly-public Zynga (ZNGA), the makers of Farmville, Words With Friends, and other more obscure games had purchased OMGPOP. Though the terms weren't officially disclosed the "word" is Zynga paid somewhere in the neighborhood of $200 million for the maker of the suddenly popular Draw Something mobile App.

A $200 million price tag would represent roughly 1/5th of the proceeds from Zynga's IPO just last December. It's an unquestionably steep price to pay and shows the company has limited options, according to Josh Brown of TheReformedBroker.com and author of the new book Backstage Wall Street.

Zynga as it exists is little more than a parasite on a much larger social media beast. The "stand alone business is basically 100% reliant on Facebook, which is never a good thing," says Brown, dramatically understating just how vulnerable Zynga currently is to the whims of Zuckerberg and Co.

The stated purpose of Zynga raising money through an IPO was to fund in-house development of new titles. The reality is relying on a nascent creative team to continue to capture the fickle tastes of online gamers. That makes acquisitions like the OMGPOP deal a smart move; at least until you look at the price tag.

"If your sector has ludicrous valuations both in the public market and the private market you're pretty much damned if you do and damned if you don't," shrugs Brown. "Congratulations to OMGPOP; it's great for them but if you're a shareholder in (Zynga) you should really be looking at this as a trader."

The same view applies to the entire new "sector" of social media related newly public companies. Yelp (YELP), GroupOn (GRPN) and the like have been trickling in the market all based on the idea that they will be able to capitalize on the endless interactions taking place and opinions being spouted online. It's a nice idea and it's hard to fault the companies themselves for cashing in but there isn't much meat on the bone in terms of fundamentals.

The lofty pricing of the companies is based less on their merits and more on what Brown refers to "scarcity value." In other words, there aren't a lot of publicly traded social-network stocks available at the moment, causing investors to overpay for the ones already trading.

Brown calls participating in the trend as "a fun game to play if you're hot money trader." Pull up the charts of Zynga and LinkedIn (LNKD) if you want to see what fun looks like to traders. Alas once Facebook (FB) finally makes its long-awaited debut on the markets, both the scarcity and the party will come to an end for the related stocks.

As for the Big Daddy itself, Brown suggests investors "take fundamentals and throw them out the window with Facebook because it's an event."

Facebook's birth as a public company will be an event for Zyngas of the world as well, only for them it's more likely to be akin to a wake.