Apple's Invaluable Investing Lesson

Wyatt Investment Research

Trees don't grow to the sky. And to that we can add: Apples eventually fall off the tree. 

Keeping with the metaphor, Apple Inc. (AAPL) , if not having fallen from the tree, is hanging precariously from a very high branch. 

No one can say for sure if Apple's share-price run is over, but its recent price decline should give investors (new investors in particular) pause - over the past month, Apple's share price is down 13%. 

So is Apple poised to become a flat-lining tech stock like Microsoft (MSFT) or Cisco Systems (CSCO) ?

Obviously no one can answer this question with a high degree of certainty. But if any investor thinks past will be prologue, he should think long and hard about his assumption.  

Over the past decade, Apple shares are up roughly 8,400%. In comparison, the NASDAQ Composite Index is up 150%. Apple's revenue has grown at a 34% average annual rate over the period, while its EPS has grown at a remarkable average annual rate of 77%. 

Apple has not only grown, it has grown efficiently. 

Apple's flawless execution has lifted its market cap to a whopping $580 billion. A decade ago it was $3.6 billion. Long-term Apple investors have seen the value of their investment increase by an average of 66% annually. 

The growth rates are extraordinary, which is why they are unsustainable. If Apple's market cap continued to compound 66% annually, it would reach $92 trillion by 2022. That's not going to happen. Trees don't grow to the sky. 

If I were to weigh the odds, I would bet that the halcyon days of the past decade are over.  

Now don't misunderstand. Apple remains a great company with a great product line. I've seen people stand 50 deep on a Monday morning waiting for an Apple store to open (and with no special occasion). It could very well – and probably will - continue to be a great company for years to come. 

But great companies don't equate to great investments, particularly great companies that have produced years of extraordinary returns. Great companies attract competition. That's economics. 

What's more, greatness is impossible to sustain indefinitely. Yes, Apple has done little wrong in the 2000s, but let's not forget that it was having trouble doing much right in the 1990s. 

Many investors will argue that Apple is still reasonably priced, trading at only 9.5 times next year's EPS estimate of $63.50. Keep in mind, though, that this EPS estimate is 42% higher than this fiscal year's EPS of $44.57.

In other words, estimates remain lofty. And when lofty estimates aren't met, companies can get punished, as Google (GOOG) recently proved. 

Though unlikely to get punished to Google's extent, Apple shares could end today roughed up after last night's earnings release. The company reported revenue of $41 billion and earnings of $8.2 billion, or $8.67 per share, for the quarter ended September 29. 

These are great numbers, to be sure: Revenue is up 44% and EPS is up 22% year over year.

Apple handily beat Wall Street estimates for $35.8 billion in revenue for the quarter. Unfortunately, it didn't match lofty quarterly estimates for EPS of $8.75. In after-hours trading, Apple shares dipped below $600, though they have recovered in this morning’s early action. 

To belabor the obvious, great companies like Apple attract a lot of money. There is a lot of money sloshing around these days thanks to the Federal Reserve, which has tripled the base money supply over the past three years. What's more, the Fed continues to pump in new money at a rate of $40 billion per month. 

Much of the Fed's new money has found its way to institutional investors through the interbank market. These institutional investors have, in turn, allocated more money to Apple shares. 

The question is, has Apple attracted more investor interest because of its fundamentals or because there is so much new money that Apple's size makes it the most viable outlet?

This is a difficult question to answer, and that heightens uncertainty. 

Apple's impending iPad Mini launch might yet be another hit, but recent price action in Apple shares suggests consumer fatigue might be setting in. If that's the case, Apple investors could see their shares finally break loose from that high branch.



More From Wyatt Investment Research
View Comments (0)