What Is a Wallflower?

Understanding a Wallflower

A wallflower stock typically sits in an unpopular industry sector. Due to the general neglect shown to such stocks by traders, they may trade at a low price to earnings (P/E) or price to book (P/B) ratios, creating potential value should attention shift toward them again at a later date.

In the trading markets, wallflower stocks likewise sit all dressed up with no place to go, waiting for attention from investors but typically without doing much of anything to generate real interest. That lack of interest can cause a snowball effect as analysts ignore the stock, and low trading volumes lead to uncertain pricing and wide bid-ask spreads.

Scant information to recommend the stock from the analyst community and uncertainty on pricing and value act as a deterrent for retail investors, creating the potential for such stocks to languish further.

Wallflowers and Economic Bubbles

While unpopular market segments generate fertile ground for wallflowers, economic bubbles in hot market segments can provide a warning sign that today’s hot issue could be tomorrow’s wallflower. Consider the dotcom bubble, during which investors threw money at Internet startups almost indiscriminately. The amount of money available for any company related to the internet led to massive initial public offerings for companies that, in some cases, boasted questionable fundamentals at best.

A sell-off among major players in the technology sector sparked by Cisco and Dell, among others, resulted in a brutal bear market for Internet stocks. It took the NASDAQ 15 years to recover to the peak it hit in March 2000, and many of the freshly minted dotcom companies faded rapidly into wallflower status as investor funding dried up.

Various media outlets began to refer to the crop of failing companies as “dot bombs,” the majority of which had blown up by the end of 2001, taking trillions of dollars of investment capital with them.

Special Considerations

Some wallflowers with decent fundamentals retain enough potential to interest investors since the low P/E or P/B ratios associated with these companies make them reasonable candidates for value stocks. These stocks bear relatively higher risk than growth stocks because a failure to attract future attention could result in them languishing further.

However, the upside to investing in a value stock can be considerable if and when the investing community recognizes its potential and prices move to match the fundamental strength of the company more closely.