Apple: Risk Outweighs Reward – Time to Sell

By Riese Jones - September 18, 2012 | Tickers: AAPL, NOK, SSNLF | 0 Comments

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     Psychology is an interesting phenomenon with regard to investing. Market forces

are often not aligned in fact, but more often in fantasy. Like a rubber band stretched too far

from reality, eventually it snaps back to its relaxed state. A state more in line with the true

value of a company’s stock rather than the stretched valuation pushed and pulled, requiring

ever increasing force to exert new highs and keep a company’s stock at a lofty value.

     I can already see the comments and e-mails from die hard Apple fanatics bashing this

post and cursing my comments. Do not forget – I also predicted Apple would push past

$700. At the time of my post, Apple (NASDAQ: AAPL) was trading around $650 (the day I

submitted my article to my editor for syndication, not the day of my edits and final

publication). Albeit, Apple was still well below $700 on the day my prognostication was

officially syndicated and published.

     For all you Apple purests out there who were so kind (yes, I’m being facetious) with your

comments to my post, “Prediction: Apple Breaks $700 by November - Then Becomes a Sell"

– I was truly amused. Really, I am not an “Apple Hater” as many of you implied. In fact, to

the contrary, I like their products - I respect their past innovation and the way they

shaped the consumer electronics’ marketplace. I just think your cultish following of Apple’s

stock has gotten in the way of open mindedness and logical thinking at this point in the cycle

of this company. Apple has reached its pinnacle and it is time for you to take some profits

and look for opportunities for larger gains elsewhere. The risk for Apple stock now outweighs

its potential rewards. Remember when Greenspan mentioned, “Irrational Exuberance” to

describe plowing money into the stock market (technology stocks in particular) prior to the

bubble bursting in 2000 - 2001? Would you concede there is a just a bit of “Irrational

Exuberance” with respect to Apple's stock price?

     What is unfortunate is the highest expectations are now “baked into the cake”. Apple had

record sales of iPhone 5’s in the first 24 hours – selling 2 million units in first day orders. This

is an amazing accomplishment. Shawn Wu, a highly watched analyst at Sterne Agee &

Leach, Inc., has raised his sales estimates to 27 million units from 26 million units sold

(originally 23 million unit prediction) for the quarter ending September 26^th. Additionally, Wu

increased his estimate for units sold in the following quarter – ending in December – by

500,000 to 46.5 million units (Apple’s best quarter previously in iPhone sales was in 2011

selling a record 37 million iPhones).

     Markets and stocks move on expectations – the problem with Apple stock right now is the

expectations are stratospheric. Even if Apple is able to shatter these inflated expectations

the stock will not move much higher. This is just a function of human psychology – everyone

EXPECTS Apple to have Herculean numbers. Any small disappointment, any small problem,

or any falling short of these lofty expectations and Apple’s stock will plummet. It is part of

the psychology of investing – Apple is ripe for a negative surprise – one that will force this

stock to tumble back down to earth, and snap back like a rubber band stretched to its full

tension limit. The risks with Apple stock right now far outweigh the potential rewards. No

company is perfect or infallible - Apple itself has proven this in the past. Let’s look at a

couple "disappointments" for Apple in recent history and the affect these had on Apple's

stock –using the same product family – the iPhone as an example.

     Remember the issue with the antenna on the iPhone 4 ("antennagate")? Everyone

thought Apple would put out a flawless, perfectly tested product as they had in the past –

this was the public’s EXPECTATION of Apple. When our EXPECTATIONS were not met

(dropped calls/antenna problem), Apple’s stock was pushed down roughly 15% from high

to low during this period, June 2010 to August 2010, - a negative EXPECTATION surprise.

The chart below is the stock price during the period around the launch of the iPhone 4, with

rumored antenna problems in June, to the point Apple stopped denying the problem and

the rumors circulated Apple came up with a fix for the antenna problem (do not forget the

Class Action Lawsuit that followed and was eventually settled by Apple).

      Remember the “disappointment” in the iPhone 4S and the initial product

EXPECTATIONS? I say "disappointment" in quotes because in spite of crtics comments

about the iPhone 4S and its only incremental improvements over the iPhone 4, the iPhone

4S was breaking sales records – 1 million units sold in the first 24 hours. Even in the face of

increased sales expectations published in early December, Apple stock was DOWN almost

15% from high to low in the two months following the iPhone 4S launch - October 14^th to

December 14^th. People were “disappointed” with the shattered record sales - because they

EXPECTED even more. See the power of EXPECTATIONS? What does that say about the

astronomical EXPECTATIONS and the stock price this time around (buyer beware!!!)?

Below is the chart showing this period of October 14^th 2011 to December 14^th 2011

and Apple's stock price.

     Today, Apple has the BIGGEST, the MOST, and the HIGHEST EXPECTATIONS of all

time. Apple stock is teetering on its largest market capitalization/share price ever. To miss

these EXPECTATIONS could be truly devastating and shareholders could experience a

severe plunge in value of their shares. If similar in scale to the other two examples above –

shareholders could be looking at a triple digit depreciation of their shares in a very short

period of time – weeks or months. It’s time to take some money off the table and look for

other opportunities.

     If you want to make a similar play based upon psychology and investor expectations, and

if you desire to stay in the mobile phone space – look at Nokia (NYSE: NOK).

     Nokia recently unveiled its Lumia, its Microsoft Windows 8 smartphone, which will go on

sale later this year. It will not take long for Nokia, partnered with Microsoft, to catch up to 

Apple with regard to technology if it has not done so already with this new upcoming

product launch (it will probably never catch Apple on sales). The lackluster reception to the

new Lumia when it was unveiled means there are very LOW EXPECTATIONS for Nokia

moving forward with Lumia sales and their future. If Nokia does not do well with their Lumia

phone or with future smartphone product launches, the stock will continue to languish at

current levels - negative EXPECTATIONS are already built into the stock price. If there is a

positive surprise, or if Nokia has future products that reclaim some of their previous market

share (they once owned 40% of the cell phone market back in 2008), then Nokia stock will

experience a nice upward bump based upon exceeding LOW EXPECTATIONS. Incidentally,

Windows based smartphones command only a 2.7% market share versus a 64.1% market

share for Android based smartphones and a 18.8% market share for iOS (Apple) based

smartphones (Source: Gartner August 2012). This means Windows based smartphones do

not have much downside potential but a great deal of upside potential. Additionally, as of the

writing of this post, Nokia is trading around $2.90 a share, BELOW its book value and its

P/S ratio is 0.25. In contrast, Apple with its current share price of almost $702 has a book

value of approximately $119 and a P/S ratio of 4.41. A move for Nokia stock above $5, which

I believe will be achieved within the next year, will mean a 70%+ gain for Nokia

shareholders from this current level. Do you really see Apple stock delivering a 70%+ gain

in the next 12 months - meaning Apple would have to trade North of $1205 a share? If you

want to play this space - Nokia has the better upside potential with a fraction of the

downside risk.

     Furthermore, as far as competition for Apple, Samsung is the industry leader with 21.6%

market share of all worldwide mobile device sales. Surprisingly, Nokia is #2 with a 19.9%

market share globally (Gartner August 2012). Didn’t the iPhone 5 have to increase their

screen size to 4 inches and improve their screen resolution (and camera) to match

Samsung’s previous Galaxy product? Wait, doesn’t the Samsung SIII have a bigger and

more vibrant screen than the iPhone 5? So Apple is now playing catch up to Samsung it

seems (Nokia's Lumia smartphones also have larger screens than the iPhone 5 and Carl

Zeiss lenses/better cameras than the iPhone 5). Samsung has been successful at providing

what the consumer wants, so much so that Apple has been playing catch up to match

Samsung's hardware. In order to keep Samsung from gaining a further competitive

advantage and allowing Samsung to continue to dominate the smartphone market,

Apple has resorted to lawsuits against Samsung. Win or lose, as we have seen, Apple

has not gotten out of this fight without having its reputation unscathed - or sharing some

of their closely guarded secrets.

     It seems Apple has taken the fight for more market share to the courtroom through

litigation versus where it needs to win - in technology and in the hands of comsumers.

Ultimately, Samsung will work around any patent problems and continue to innovate/compete

with Apple – as both companies fight to leapfrog each other. Per the court battle and Apple’s

win in the USA – the EXPECTATIONS for Samsung have been lowered in the mind of the

public. Therefore, any market wins by Samsung's Galaxy products over the iPhone 5 have

also been underestimated at this point. Apple has some serious competition with regard to

Samsung and now Nokia. The Apple is ripe for a negative surprise.

     In the end, Apple’s iPhone 5 seems more EVOLUTIONARY than REVOLUTIONARY.

Apple would have been wise to supply adaptors with each new iPhone 5 so every current

iPhone user could go on using their old power cords and peripheral products that connect

with their current iPhones. Enabling present iPhone users to conveniently use all their

iPhone accessories, rather than making their customers make yet one more purchase

(oh…so now you have to purchase an adaptor too) is truly annoying and bad customer

service. Is this any way to treat a loyal customer base? Apple should remember who got

them here – their customers and end user. It would have been nice for Apple to provide

these adaptors to everyone who purchased the new iPhone 5. Apple – take care of your

customers – annoyances like these and evolutionary products that are no longer lightyears

ahead of your competitors can lead to negative surprises and disappointments.

     Let’s hope there are no supply chain, manufacturing, distribution, or engineering issues,

like “antennagate” to crush these “Irrationally Exuberant” EXPECTATIONS. Maybe now you

see why I feel the risk of Apple's stock price at these lofty levels far outweighs the possible

rewards. After all, I did say Apple stock was going to break $700.

     Any negative surprise is going to cause this stock to tumble from these frothy levels. As I

stated in my previous article, “Prediction: Apple Breaks $700 by November - Then Becomes

a Sell”, “Steve – you will be missed. History is about to rhyme Mr. Twain.”

     For current shareholders, let’s hope the history of market psychology (EXPECTATIONS)

is a positive surprise and the stock trickles a little higher. Any negative surprise with respect

to these current Herculean EXPECTATIONS….and it is TIMBER – LOOK OUT BELOW!!!!

This could mean a 15% (triple digit) negative share price depreciation in weeks or months.

The downside risk of Apple stock far outweighs its current upside reward – it is time to sell.

Interested in Additional Analysis?

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