Whether it’s because of the burgeoning trade war, increasingly lackluster product offerings or just general investor malaise, it certainly does seem that Apple (AAPL) can’t catch a break in 2019, being the second-worst performing FAANG stock so far this year. Of course, the best performer is Facebook (FB), a company that nearly every presidential candidate (and one of its co-founders) thinks should be broken up and more heavily regulated, or Amazon (AMZN), which is devoted to spending its investors' capital on expanding into even more superfluous businesses. It might seem obvious that “reason” left the market a long time ago.
And while there might be a thousand obvious motives for investors turning their backs on poor Apple for almost any other "FAANG", there’s one not readily transparent factor that we think is easily overlooked in the discussion. Ownership of Apple stock by ETFs has been steadily declining since late last year, which may not be surprising to some, except that other mega-cap stocks like Amazon have continued to see their ETFs take down more shares even as Apple lost ground. Think of that drawdown as taking the wind out of the stocks sails that could, if not reverse the trend, at least have helped mitigate some of the downside for investors.
The Ongoing Debate of “Chicken Vs. Egg”
So first off, why are we focusing on the change in shares owned instead of some other metric that we normally rely on, like how much of each company’s market cap is held by ETFs? The short answer is that we’re looking for a “cleaner metric” for this specific case, largely because we’re talking about some of the largest, most widely owned companies in the world. Secondly, by focusing on shares held, we are able to magnify ETF ownership, backing out market depreciation/appreciation. In both cases, the percentage of their market cap held by ETFs will be relatively small, as mega-cap stocks typically have an ETF ownership % in the low single digits. So, a change in the ownership % from, say, 5% to 5.1% might not be particularly informative, although for a company like Apple, 1% of its market cap is still over $8 billion!
Another complicating factor is that both companies have also seen a major difference in their annual returns, with Apple now up 17.7% through 5/14 versus a 21.3% return for Amazon, although the later is trading much closer to its 52-week high than the company Steve Jobs and the iPhone built. That performance can cause a sort of “chicken versus egg” effect, where it can be difficult to discern if the change in ownership is strictly a result of the change in price, shares, or a combination of the two. Focusing strictly on the change in shares owned helps cut through a certain amount of that distortion.
It also opens another avenue of investigation, digging into just who exactly owns the stock in the first place and what that means going forward. After all, we’re nearing the point where the number of ETFs is about to exceed the number of investable stocks in the United States but where the trend in product development has been towards more specialized strategies, whether smart beta, ESG or even active. That could mean Amazon and Apple, despite being top 5 holdings of the S&P 500, might have wildly different ownership beyond just sector funds.
Mountains or Mole Hills?
Just how drastic has this changed in shares owned by ETFs been? A quick glance at the chart below might have you wondering if we’re making a mountain out of a molehill, but we promise you, there’s a story here you’ll want to stick around for.
For this exercise, we decided to go back to the start of last September and looked at the daily changes in ETF ownership through May 10th, while also including the change in shares owned by ETFs for Amazon for a comparison as well. You can see that Apple (in orange and using the left-hand scale) has seen a steady decline in shares owned over the period, going from roughly 484 million shares to just over 473 million shares as of last Friday. By contrast, Amazon (in blue and using the right-hand scale) has seen a nearly 2 million increase in shares owned by ETFs.
In terms of percentage of shares held by ETF, that works out to be roughly a 4.6% increase for Amazon and a 2.2% decline for Apple, something that might seem noteworthy to most investors, although their reaction might be muted given their recent performance. Apple continues to struggle and remains significantly below old highs, while Amazon seems to be the golden child of this stage in the bull cycle. And if you use the current share prices to transform those changes into market cap equivalents, you’re talking a change in ETF ownership of slightly over $2 billion for Apple versus a $3.5 billion gain for AMZN.
That 10 million shares, even though it represents just a third of Apple’s average trade volume, can still have a significant impact on a company the size of Apple, especially in a rough market like we had last fall when tech stocks suffered a serious setback. Just look at the performance chart below showing the cumulative performance of most of the FAANGs from May 2018 through the present.
You can see that Apple goes from being up 40% at the start of October to down 10% by the end of December, while ETF ownership is relatively flat, suffering a not surprising drop at the start of the correction before slowly returning to where it was by the end of December. That might seem reasonable - after all, large investors flee tech funds or close out short positions by redeeming shares and taking delivery of specific stocks, except when you consider that Amazon continued to see accumulation of its shares by ETFs during the same period.
But what about when you get into the Christmas recovery that helped send the market into the stratosphere? Even then, Apple continued to see a steady reduction in the number of shares held by ETFs, reaching a low point in February of just under 466 million shares, a 3.7% drop from its level of 9/4. Amazon also suffered a similar drop before resuming its upward advance, which leads us to think that the culprit was rebalancing and reconstitution of various ETFs along with investor fund flows, whether through annual asset allocation, profit-taking or some combination of the two.
What’s interesting is that by early March, Amazon begins to see a substantial increase in the number of shares held by ETFs, while Apple experiences a much more muted change that fails to take it or its share price back to the previous highs. They “why” of that has to do with who was buying and selling shares over this period. At first, we thought to just look at the change in the number of funds invested in each company, and while there were almost daily changes in the total number, from start to finish, only 10 more ETFs were invested in Amazon and 3 fewer in Apple. What’s interesting is the change in who was buying.
Apple may have only seen a slight drop in the number of ETFs it was included in, but the kinds of ETFs were substantially different. Most of its top 10 holders were the same, typically S&P 500 index replicators like SPY or VOO or technology funds like XLK, with the biggest change being just the number of shares held, but a more noticeable trend emerged as you got closer to the bottom of the list.
Style Does Matter
Go back to that chart of shares held by ETFs and you’ll see a slightly peak in late December, just before the end of the year. That was December 21st, which would turn out to be a major turning point for Apple and its ETF ownership. December 21st was the last day that Apple enjoyed the benefits of being a “growth” stock, at least for funds linked to the S&P 500 index when two large funds, the iShares S&P 500 Growth ETF (IVW) and the SPDR Portfolio S&P 500 Growth ETF (SPYG), show their last-reported positions in the company. After that, Apple vanishes from their holdings reports, only to join their value counterparts, the iShares S&P 500 Value ETF (IVE) and the SPDR Portfolio S&P 500 Value ETF (SPYV), appearing in their holdings reports for the first time on 12.24. Nor was that the only value fund to own the stock, with Apple also joining the iShares Core S&P U.S. Value ETF (IUSV).
Why does that matter? Being included in a leading value fund certainly has its advantages, especially compared to not being included in the fund after leaving IVW or SPYG! That switch helped reduced the potential pain for investors, although we’d point out that neither value fund on 5.10 held as many shares as their growth counterparts did on 9.4. And we should also note that two Vanguard growth funds, the Vanguard Information Technology ETG (VGT) and the the Vanguard Growth ETF (VUG), continue to be large owners as of 4.30 with approximately 46 million shares worth around $9 billion, but these represent the only two sizable “growth” positions.
Amazon, of course, is also owned by VGT and VUG, not to mention a host of other growth funds that have been more successful at, if not growing, at least maintaining their asset levels, especially during the strong rally that marked the first four months of the year. This highlights the biggest problem for Apple ownership, namely that the move from growth to value took it out of the strongest-performing style over the past several years. Maybe this chart can offer a more dynamic view:
Growth stocks may have been running the board over the past few years, leading to big inflows in good times and “less bad” outflows when the tide begins to go out. Just look at a few funds in this tumultuous year. Starting with our paired funds, IVW might be down $500 million in AUM so far in 2019, but IVE is off more than $1 billion, while SPYG has gained over $1.2 billion in new assets compared to a more modest gain of $200 million for its value counterpart SPYV. Then, there’s the host of smaller tech funds that have large allocations to AMZN, like the First Trust DJ Internet Index ETF (FDN) with a 10.54% allocation to Amazon and almost $400 million in new assets this year.
Concluding our Analysis
It would seem that the reason Apple is struggling, at least to gain ETF assets, is due in no small part to being stuck in the thankless role of a “value” stock, but the question investors need to ask is whether that might be about to change. But is there another way investor could benefit from Apple’s style change?
All things being equal, being unpopular with ETFs might be the sign of a buying opportunity, at least according to one Deutsche Bank strategist, Ronnie Shah, who found that a long portfolio of names that had the worst ETF flows over the prior 12 months would have outperformed the Russell 3000 over the course of a dozen years. You can read more about it here: Hate ETFs? Quants Say They Found Anomaly to Profit on Their Flows.
The main thrust has to do with behavioral finance, specifically the idea of the herding factor. As investors anticipate fund flows, either positive or negative, they tend to join the trend in an effort to capture “riskless” returns. Buy what’s winning and sell what it isn’t, also known as "the trend is your friend". Obviously, value stocks typically do better during periods of market stress, which could help insulate Apple from the broader fallout in the event that markets do pull back, while leaving Amazon at the mercy of investors who may choose to pull out of growth funds than suffer through the pain.
Disclosure: I/we 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.
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