Seeking Alpha
What is your profession? ×
ETF investing, CFA, portfolio strategy, long/short equity
Profile| Send Message|
( followers)

Money moves markets. To move big markets, it takes big, focused money.

Apple Inc. (NASDAQ:AAPL), even though down from its earlier high by -40% is still as large as any other stock in terms of market capitalization, over $400 Billion. And it is owned, 64%, by 1,985 mutual funds and other institutions, more than its closest (equal) size-rival.

In an average daily trade volume of over 20 million shares, worth $8.5 billion, the price of AAPL doesn't get budged much by the typical ten-share, $4500 trade of an individual investor.

The action comes from the other 1,985 organizations, jockeying against one another. Mom and pop are just along for the ride, hoping for the best. So, what might that look like?

To find out, talk to the market pros that help the big shooters stalk their game, the block-trade desks of the market-making firms. They know their clients well, talking to them dozens of times a day. Problem: They don't talk to outsiders or competitors.

But they do put firm capital at risk to help fill and execute big-volume trades. As pros, they know how to risk-protect those exposures by hedging. And they can't do it without leaving footprints in the protection-market sand, prints that can be tracked by an expert trail-finder.

The principal specific-hedge, risk-protection market is the one in listed options. At present, in AAPL options there are open interests with a notional (stock value) total of $80 billion on the call side (long positions) and $15 billion in puts (short positions). That's a net of $65 billion, the equivalent of 7-8 full days worth of AAPL trades.

Please pardon the brief digression, but this is a perfect example of the liquidity provided by, and needed from, honest derivative markets. They make other underlying markets liquid and able to move huge amounts of capital daily without enormous disruptions.

With all this continuing traffic in AAPL it is quite possible to see what are the expectations of those market-making pros for the potential prices of the trades they are trying to facilitate for their customers.

What reveals their outlooks is the prices for protection the market-makers are willing to pay out of their trade-spread profits. It's their accepted costs required to shelter the stub ends of the block that the market won't absorb at the moment, and for which firm capital is temporarily needed.

Here is what the aggregate expectations of that market-making community have been for AAPL over the past six months, implied by their hedging actions.


(Click to enlarge)

(used with permission)

The vertical lines in this picture are not ranges of market prices in days past, but are, for each day, the forecasts of likely possible prices that may be encountered in coming days, weeks and near months. The heavy dots are closing prices for the day, and instances of green vertical lines are where nearly all of each forecast is above, rather than below the day's close.

Perhaps the most impressive feature of this picture is the continuing downward trend of future price expectations, even in the face of periodic market-price spells of optimism. Do these expectations actually tell us anything useful?

Would a buy of AAPL at a price approaching $600 in its recovery from $500, perhaps suggested by that second group (from the left) of green-line days, be painful enough at today's $425 to make a big-money fund manager take his loss and go on to other potential conquests? From the continuing decline in market prices, apparently some have exhausted their patience. Others now may be getting interested. It's what makes markets.

So, how to tell when a turning point may have been reached? So far, this picture has demonstrated a couple of head-fake false temptations.

Because the interest in AAPL is so intense, it along with a growing number of other active investment candidates, has created a need for finer gradations in the price-insurance options market. Until recently the normal granule of time presented in options expiration offerings has been a month. Early options markets started out with calendar-quarterly expiration spans, and evolved into a near-month, next month pattern.

Now the intensity of trading is demanding -- and getting -- options contracts with weekly expirations. Market-makers look at an overnight position as a long-term holding, so for them being able to buy protections in only weekly-length lumps is a big advantage.

What is shown in the blue picture above is the aggregation of protection purchases over time periods of typically 6 to 9 months. While this is useful for longer-term investors, it fails to provide much guidance for the active investor looking for a turning-point opportunity. A look at the implied price ranges between now and progressively longer expiration periods can be a further help in sharpening trigger-pulling decisions.

As we indicated here, AAPL is replete with a half-dozen or more increasing-length expiration periods in each of those daily aggregates. That article of a month ago indicated that time-sensitive investors might want to hold off on buys, an observation that has been borne out.

Now a current look at the evolved pattern suggests that a turning point has not yet arrived convincingly, and that new commitments in AAPL may be less rewarding than other competitive opportunities over the couple of coming months. Here are the details:


(Click to enlarge)

Comparing these numbers with those of a month ago suggests that while there are still good returns and attractive risk-return proportions in the mid-term picture after May, much of the earlier enthusiasm for AAPL has dissipated. Even on the longest Leap contracts out to January 2015, the old AAPL high of 705 is not foreseen.

Prospects for further drawdowns are apparently being taken more seriously. Even so, just as expectations have declined along with prices, they will likely grow as confidence in the stock returns.

AAPL, the stock, needs Apple, the company, to be able to show good market penetration and retention during the next few months to rekindle enthusiasm by big-money investment managers. Otherwise, it just becomes another tired long-term hold, in the shadow of other enticing, ready-to-perform alternatives

We will continue to monitor, using behavioral analysis, the attitudes of the market pros towards AAPL, and its competitors.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.