Hot Money Makes Apple #1 Concern Of The Market-Makers

| About: Apple Inc. (AAPL)
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Tired of speculative rehashes of things you already have read about AAPL? This should be refreshingly brand new.

Where did the incremental capital go, extracted by active investors from the market value of Apple (NASDAQ:AAPL) stock, in its decline from over $700 a share? In an earlier SA article, we examined this question. At the time, we also speculated about what the impact might be on those alternative investment beneficiaries, should events prompt a renewed interest in AAPL.

Now events have arrived, in the form of Apple's stated intent to pay a major dividend, and to buy back large amounts of its stock in the open market. Apple's very successful sale of $17 billion of bonds to finance those steps makes it clear where the needed funds will come from without having to pay US taxes on the repatriation of profits currently domiciled abroad.

The stock has instantly responded, rising some +10% in price from the time of the announcement.

The market-makers' read of client reactions

Market-maker-hedging-implied forecasts of price points where big-money funds have buy appetites and sell-targets also have risen. Here is an update of how those forecasts have turned around during the last two weeks since the announcement.

Professional investor future price expectations for AAPL have been almost entirely above its market quote most days since the start of 2013. The green lines in this history of forecasts picture (not a high-low-close past price "chart") indicate where there has been little to no expectation of further price decline below the then-current market price shown as a heavy dot.

But the downside forecasts have been wrong repeatedly in that time, during which AAPL price declined from about $550 to a recent 3-day low just under $400. This is in keeping with AAPL's character as a "momentum" stock. In such stocks, price trends driven by shorter-term investor interests dominate over the bargain-hunting "value" instincts of longer-term investors.

The "trend," despite what market technicians are wont to say, is not your friend, when looking at past prices. It is simply a not-to-be-relied-upon traveling companion. Don't expect any warning bells from him when he changes direction.

Our Intelligent Behavior Analysis approach, as originally designed, serves value investors logically and well. Its extremes of the forecast range usually indicate higher price sell targets to aim at, and downside exposures to avoid. But momentum stocks like AAPL require a deeper probe into what may be going on.

What is the "hot money" doing?

Just seeing no downside in the forecast is no real reassurance of higher prices with a momentum stock. Particularly if its momentum in both price and expectations is downward, like AAPL's has been.

It's better to see a sustained change in expectations upwards, along with the increasing market quote, and with both price and forecasts accompanied by a strong influx of incremental capital. Here is a perspective on how that last dimension has been accruing recently.

The start of this picture is at the $702 price peak of the stock, noted by the right-hand scale, and logged in red. The blue track of incremental capital being extracted from the AAPL sphere of financial enthusiasm shows the day-by-day erosion, starting at a $12 billion level, and being drawn down to $4 billion.

The total decline in that capital, committed to support the stock's price daily, has been less than the total value of one current day's trading - 20 million shares at $400+, or $8 billion. This provides an indication of the sensitivity of AAPL stock price to investor attention and interest.

Most recently, the stock's incremental capital flow has been on the increase, but not enthusiastically so. The augmentation has totaled $1 billion, perhaps a lot in most other stocks, but this is an issue with huge capital involvements - at one point the largest of any stock in the world.

How markets follow AAPL forecasts

To get a sense of how markets have dealt with AAPL over the years, we have compiled the stock's price behaviors over the 3 months of days following every day's market-maker forecast of the past five years. Those experiences have been aggregated according to the imbalances in the forecast between upside and downside prospects, using our Range Index measure.

That measure records the percentage of the forecast price range that lies below the current market price. It is easily visualized in the vertical price range forecast bars of the first illustration of this article. A low or negative price Range Index indicates a large upside possibility, and a RI approaching 100 or more has just the opposite implication.

To be useful as an investment action guide, the subsequent experiences have been cumulated from the Range Index high and low extremes to a meeting point at their median. All of the data are actual observations; nothing is any kind of statistically-generated function. All stem from human estimates made before-the-fact, or "ex-ante" in the lingo of those who discuss such things.

First, here is the frequency shape of Range Indexes resulting from over 1100 daily market-maker forecasts, along with an indication of the current RI level.

Next, we picture the average proportion of market days during the 3 months following each forecast that had a closing price higher or lower than the day of the forecast. These are the ODDS of randomly closing out a position, at a gain (green) or a loss (red), from that RI level or more extreme.

These odds are what differentiate value stocks from momentum stocks. In a value stock, the odds for gains are larger in low RI forecast situations and lower following high RIs. Here, in a typical momentum stock, just the opposite is true.

Now let's look at how the size of payoffs vary following RIs at varying levels for AAPL.

The size of pure-opportunity gains (related to gain and loss days) appear to improve in their benefit (or reduced loss) for a long-position holder of AAPL as the forecast-created Range Index increases. In a value stock, we see the opposite. Starting from the left side of this picture in a value stock, we would see larger positive gains and smaller losses, and moving to the right side of the picture, it would evolve to smaller gains and larger losses as RI size grows, But not with AAPL (or any other true momentum stock).

Finally, combining the Odds and PAYOFFS produces the expected in the illustration below.

The probable better-resulting forecasts for investors in AAPL are those where Range Indexes are in the mid-30s to mid-40s, not where they are below 20. For perspective, an RI of 33 has a forecast with twice as much upside as downside. A 20 Range Index offers the prospect of four times as much upside as downside.

Part of what makes AAPL unusual in our calibrations of investor and market behavior is its forecast norms. Besides being a momentum stock, it is, or has been, a hugely biased stock in the size of its favorable impressions. That is evident in a comparison of its upside forecasts with those of the stock population at large.

When AAPL's upside forecasts are compared by size to those of the equity investment population, it is clear that their frequency in the +10% to +20% range are far above average. The small-upside forecasts (below +9%) are way below normal. AAPL is often perceived as a great and volatile potential performer. This is one reason why market-makers usually devote teams of traders to deal with this stock, to the exclusion of any others -- except perhaps its closest competitors.

AAPL is a BIG deal

The other obvious reason is that there are few other attention-getters that draw gross volumes of daily transaction values at the multi-billion level.

The open question remains: Has sufficient excitement returned to AAPL to ignite a feeding-frenzy of price-gain attention by shorter-time-horizon momentum investors, speculators, and outright gamblers?

Their return, when it occurs, will spread a contagion drawing in the less-sophisticated, typical American consumer, driven by carefully developed Madison-Avenue delusions, who can't wait to add to their still-held, $600+ a-share holdings of AAPL, which they will continue to suffer with, because they are "conservative, long-term" speculators (not investors).

Market-maker reactions so far indicate that the frenzy has not yet come about. Past experience suggests that it will take a bit longer to ignite such a wildfire. When it gets going, even though future price forecasts will continue to rise, prices will start gaining faster. Then the Range Indexes will likely rise into that 30-40 area where best returns have been experienced in the past, and the presence of big-money professional investors (of the shorter-term focus) will make it again look like "this time AAPL will reach $1,000 a share" -- or similar hoopla.

Maybe it will get there. Probably it may be just a few weeks before those conservative, long-term "investors" once again start to be concerned that their expanded holdings of $600+ cost shares are back under-water.

But not to be concerned. I understand there's this amazing marvel of a new stock, Live-Forever Biotechnology, Inc. (OHOH) that's going to change everything (tongue-in-cheek).


In a more constructive (and realistic) vein, a following article will look at competitors of AAPL for market attention, and explore what impacts that contest may have for all concerned.

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.