Why $500 Is so Important for Apple Shares

Chris is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Rumors briefly circulated that Apple (NASDAQ: AAPL) could enter the “dirt-cheap” market. More recently, Apple shares traded down again $18.55, or down 3.57%, on Jan. 14. News media outlets reported supply orders were cut, prompting fear that iPhone 5 sales would not meet heightened expectations. The first rumor of a cheap iPhone smartphone was quickly dispelled from an interview with Phil Schiller, Apple’s SVP in a Chinese paper. Schiller said in an interview in a Chinese paper that Apple would never blindly pursue market share. With Apple shares at 11-month lows, investors are forgetting the still-growing development within the Apple ecosystem. At the CES show in Las Vegas, held last week, many vendors featured Apple-related products.

The second report on Apple’s supply order cut implies weak iPhone 5 sales ahead, but what will really matter is next week’s earnings results. Apple could be still be facing very healthy demand, and supply orders are moderating because holiday sales demands will give way to more normal demand patterns.

What are investors holding Apple to do? Below are five things to think about:

1)      Faster Product Releases Could Hurt Sales

A report by BGR that a second generation iPad Mini and a 5th-generation iPad will be launched in March could actually hurt Apple shares. Consumers will delay their purchases of the existing Apple models, which could lead to lower sales in the short-term.

2)      “Cheaper” iPhones Not Necessary

Apple may already sell the iPhone 4 at a discount, negating any need to commoditize its hardware and to hurt margins. An “old” well-built iPhone 4 device at a lower price is more appealing than a new, “cheap” iPhone 5-variant made with inferior parts that would compete with the more expensive iPhone 5.

3)      Weak Quarterly Results Possible

Apple reports on Jan. 23, after market close. If the company reports a miss the stock would drop further. Investors will need to decide if a miss is temporary or chronic. If the miss was due mainly to optimistic forecasts, a sell-off would correct for overvaluations caused by excessively high analyst targets. Apple shares are not overvalued: Shares trade with a forward-P/E of 10.

4)      Apple Overbought

Apple is owned by too many institutions, a sign of over-optimism for Apple shares. 77% of growth funds have a position in Apple, albeit a decline from 82% in December 2011. 40% of the value funds own Apple shares, up from 29% in the same period.

5)      Lawsuits Could Have Been Distracting

The patent lawsuit activities could have been a distraction for Apple. After iPhone 5 was released, its screen size was still only marginally improved in size. Apple increased the screen size to 4-inches, up from 3.5-inches. Meanwhile, Samsung’s S II offered a 4.3-inch screen. The current S3 model has a 4.8-inch screen, while Google’s Nexus 4 has a 4.7-inch screen.

6)      Look at Other Opportunities

If a supply cut by Apple is true and is due to weakening demand ahead, investors should expect related smartphone suppliers to fall, including OmniVision, Qualcomm (NASDAQ: QCOM) and Cirrus Logic. Cirrus Logic  and OmniVision could be hurt the most, but Qualcomm is well-diversified. Qualcomm would be a good alternative for investors looking for exposure in the mobile space.

Research in Motion (NASDAQ: BBRY) and Nokia (NYSE: NOK) are alternatives, although they are up 93% and 78% in the quarter, respectively:

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The decline in shares of Apple is alarming when it is looked at in a short-term duration. Apple is still up over 20% in the one-year period, while Nokia and RIM were down in that same time frame.  $500 appears to be a magic-number speculators are fixating as an inflection point for Apple. The level is of significance: There is heavy option trading activity for Apple January 500 Calls. The put option volumes are even higher: There were 37,932 contracts open for January 500 Puts as of Jan. 14. Option trading is heavy for February 500 calls and puts. One thing is certain: Apple’s quarterly earnings will ignite a big move in either direction.

chrispycrunch has no position in any stocks mentioned. The Motley Fool recommends Apple. The Motley Fool owns shares of Apple, Cirrus Logic, and Qualcomm. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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