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China's slowing economy could be a problem for Apple

Customers formed massive lines all over the world to get their hands on Apple’s (AAPL) latest products in September. But that kind of enthusiasm could quickly be declining in a key overseas market, according to Goldman Sachs.

Consumer demand in China is “rapidly slowing, which we believe could easily affect Apple’s demand there this fall,” Rod Hall, an analyst with Goldman Sachs, wrote in a note Monday.

Recent data from China points to substantial economic weakening, with the country’s purchasing managers’ index dropping to 50.8 in September from 51.3 in August and 51.6 in June. Sales for automobiles plummeted to negative 12% year-over-year in September, following 4% year-over-year declines in August and July.

“We also believe that smartphone unit volume deteriorated by ~15%Y/Y in Q3 which is unheard of in a typically seasonally strong Q3,” Hall said. “Though most of the smartphone weakness was in the mid and lower range we find it hard to believe that this general environment is going to be helpful to Apple unless things improve late in the year.”

However, Hall noted that customer conversion to 6-inch or greater iPhone products could help offset some of the weakening consumer demand “in both China and elsewhere.” Apple did not have any iPhones with screens sized at or about 6 inches last year until the launch of the XR and XS Max models in September.

A customer is shown a new iPhone X at an Apple Store in Beijing, China. REUTERS/Damir Sagolj

“Given Apple’s flagship product did not compete in this rapidly growing category last year we believe there is some upside potential this year as both the XS Max and XR are in the 6”+ screen size category,” Hall said. Six-inch screens remain a growth category, with consumers continuing to gravitate towards large-screen devices “as they had done in China since the beginning of the last decade.”

He reiterated a Neutral rating for Apple and retained a 12-month price target of $240. However, he added that “much of Apple’s upside potential in our thinking was centered on Chinese demand for larger screen sizes. Should weak consumer demand persist and impact the higher end of the market Apple’s potential to beat and raise in FQ4’18 earnings is likely reduced.”

The region of Greater China comprised 18% of total net sales for Apple in the quarter ending June 30, representing an increase from the same period in 2017. The company attributed this to higher net sales of the iPhone and “other products” in Greater China. Shares of Apple were up more than 28% in 2018 as of market close Friday. Apple next reports earnings on November 1.

Emily McCormick is a reporter for Yahoo Finance. Follow her on Twitter: @emily_mcck

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