Why I'm Selling Apple

I have been battling with the idea of cutting back on my position in Apple or letting it ride. I think the fundamentals, based on their current state, do not support the $79 price that the market is currently holding for the stock. If you include cash, which I did in my last report, the company looks cheap and could be valued near $85. Without that cash though, the company looks expensive.

What is one to do with such a conundrum? First, I determine if the fundamentals are risky. Then I determine if the chart can support the current price and those fundamentals. Lastly is there a catalyst out there to speed up the growth. Here is that thought process.

Fundamentals
First, should I value this company with cash or not. The analyst community is including cash in their analysis when valuing Apple. This, in turn, allows them to justify a price target somewhere in the mid 80’s which I argued for a month ago. But I wonder this: If the current market punishes those who miss earnings, why would I want to own a company that is expensive to growth alone? Further, it is not just expensive; it is very expensive to growth not including cash.

In the past, I have stayed away from such situations because I think they are risky to be involved in and create uncertainty of sorts in the price action. I was persuaded to adopt the growth plus cash analysis a month ago because I thought that the market would take this stock right up to the mid 80’s because of the “what if” of the story – what new products will AAPL introduce? I also believe that growth companies tend to migrate back to 1x growth from time to time – especially when they are substantially above it.

Chart Analysis
So if the PEG ratio ex cash is expensive, how much of a drag could this provide on the stock? For that I look at the current growth prospects of the economy as that will determine if growth is possible and if growth will be a focus by traders. Generally, when interest rates are falling, the economic situation is slowing and thus growth will slow. Those companies trading expensive to growth will correct while those cheap to growth will sell off less.

Are we in such a period? We are close. Since Apple correlates well with the 13 week bill on the long term chart and the 13 week bill correlates well with growth and inflation, one can almost forecast if growth will continue on its upward path or start to be weak relative to market expectations. At the moment, as the bill gyrates around its trend line, Apple is operating close to what the analyst community expects and thus 20% growth to 07 and 16% growth into 2008.

Outside of the correlation with the 13 week bill, the participation in AAPL has been less than the previous times at this level in terms of my power model (which is made up of the force calculation and on balance volume). It shows less people willing to step up and buy this stock versus the last time it traded in this area which is a divergence of sorts and a bearish indicator.

Also, the relative strength models, which I will be introducing as part of my analysis of the industries and stocks I follow, shows Apple catching up to the S&P from a performance standpoint in an almost overbought position. Generally when something like this occurs, the stock catching up sells off over the following weeks. This too is a bearish development and argues for a pullback.

Catalysts
Is there a catalyst out there though to change this inline growth prospect and support a case for higher prices? I am not so sure. The iPod was a tremendous creation and the market share gains in the Mac’s have been strong and continue to be strong. Is this enough to take the growth rate though from 20% to 30%? I think the only way growth gets to such a level is if a new item is released to the market like the iPod. Do I believe Steve Jobs has that up his sleeve? I am not so sure. Interestingly enough, a catalyst on the chart would be a breakout above the previous highs. A break there argues for a significant rise to the 110 level.

In summary, Apple is trading inline with what the market thinks it will report this year and next. It is trading at a premium to growth. The chart shows less willingness to buy and the stock seems like it is late to the party in the most recent rise. There lacks a significant catalyst to jump growth prospects at this point and to some extent, the price of AAPL. All of this leads me to one conclusion. Press the sell button on my machine on Apple. I am a seller of AAPL and will put my money in some less risky alternatives (cash and the S&P at the moment). Would I short the stock? Not yet but I think I may take a stab in the next few weeks if the breakout fails.

AAPL 1-yr chart:

Comment on this article.

Comments

[Julian Ivan...:]

Anyone who thinks AAPL is only going to grow earnings by 20% in 2007 and a laughable 16% in 2008 is totally bonkers! That was the fear this year. What happened? 40% growth. Mac market share is growing at an incredible rate and just expansion of the Mac platform alone could sustain 30% growth for the company's earnings: witness the rise of Apple's market share for total latop sales fo 6% to 12% in just 6 months. Now just imagine what would happen if even half that growth was extedended to consumer desktops.
Factor in new iPods imminent next year, and other new devices, and you have a company that will likely grow earnings in 2007 and 2008 by 50% and 40% respectively, not 20% and 16%.

And you want to sell AAPL?

Good grief. I suppose you're the same kinda guy who thinks that DELL is a great value play trading at 18x forward earnings, when its suffering from shrinking margins, plummeting market share, SEC crises, and plunging earnings.

Some people don't know a good thing when they see it.

2006 Oct 22 11:45 AM

[Jay Leonard:]

Since you mentioned the cash... 10 Billion dollars is a ton of money. I have not seen anyone yet ask what AAPL should do with the cache of cash. It is a huge luxury for a CEO to have cash but it is not without cost. It is killing their ROI. And at somepoint even at these prices if 40% growth is real. Takeover or private equity become real possibilities. Imagine if you will a private showing for potential investors and a roadmap for 5 years of growth and oh yea 15% of your equity for purchase is sitting in the bank. Even if that does not happen, The company is going to come under pressure to pay out some of the cash

2006 Oct 23 09:41 PM