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Apple: Faded, But Not a Black Hole for Market

Richard Satran

In the dark days following the September 2008 market collapse, Apple shares were one bright spot. After initially falling with the rest of the market, the tech giant began a recovery in December of that year and resumed the long upward climb that eventually turned it into the world's most valuable company.

In the four years that followed, Apple was the market's star performer, playing a role in restoring overall investor confidence. It accounted for 5 percent of the value of the Standard and Poor's 500 stock index and over 10 percent of its gain, S&P data show. In mid-September when Apple's stock peaked at over $700 and began to fall sharply, it looked as if the drag of its falling shares on the entire market might become a black hole that threatened to pull everything down into its gravity field.

"It's a stock that was so incredibly over-owned, almost everyone had it," says David Cassese, an associated portfolio manager for consumer, healthcare, and information-technology funds at BlackRock. "It got to the point where there were so many people who owned it, there were no more incremental buyers."

Lipper reported that in September, more than 800 mutual funds owned the stock, with nearly every large-cap growth fund listed as owners. Another 200 hedge funds were invested, some with stakes as high as 20 percent of their holdings.

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Many of those funds were heavy sellers when the stock changed course. With a 70 percent gain this year and an eightfold rise since 2008, funds were quick to book profits. Now that Apple has shed over 20 percent of its value, most Apple analysts are recommending buying the stock.

But will it continue the shockingly fast rise that made it the dominant consumer electronics name, one that led the stock market through the turbulent first decade of the new century?

"That's a tough question," says Cassese. "It seems that Apple is in a transition from a growth stock to a value stock ...With a lot of stocks, that has been very painful. There could be a lot of volatility in the stock, and that could upset the market."

Apple once had the lucrative market for sophisticated smartphones and tablets virtually to itself, with the iPhone and iPad bestowing the luxury of very high profit margins for the company, he says.

Now it faces aggressive competition from Samsung (SSNLF), Google (GOOG), and Microsoft (MSFT). Even the most enthusiastic Apple backers concede that earnings growth will slow, although there is less agreement on whether the outlook is fundamentally different.

"Things have not changed. Apple has always faced cut-throat competition," says analyst Peter Mizek of Jefferies & Co. "Whatever you say now about them, you could have said three years ago. Only the competitors are different. The dynamic is the same. Its rocket-like growth has been phenomenal and going forward, it will continue to have good solid earnings growth."

Why Apple will not burn to the core. Stock market historians can give a long list of hot stocks that have flamed out from overblown expectations and lack of true earnings growth to sustain their lofty status, like Groupon (GRPN) or Blockbuster (BLOAQ).

They would be more hard-pressed to find another case like Apple. There have been no revelations of major earnings disappointments, only a slight downward adjustment in a recent forecast. Its products still sell famously. There are rumblings of disappointment over the iPhone 5, but it's selling briskly. Based on its price-to-earnings ratio, Apple shares are still cheap compared with the rest of the market.

In part, the company is a victim of its own success. The powerful growth of the past five years made Apple "the one sure thing" investors could hold dear, says Cassese.

The market has been desperate for certainty since the 2008 collapse, especially over the past two years as a seemingly endless budget stalemate has threatened to throw the slow-growing U.S. economy back into recession. Now it's the fiscal cliff approaching at year-end.

That puts a lot of weight on one single stock to lead the entire market higher. Apple has always attracted outsized attention. The death of founder Steve Jobs was a signal event for U.S. business, and the succession drama surrounding Tim Cook, the engineer from Alabama with a background in materials management and operations who replaced the great innovator, has been just as riveting.

"The media is great at pointing out the obvious," says Mizek. "They are not good at stepping back and thinking through things. The chance that Jobs left without leaving a clear product roadmap is near zero. He had a 10-year vision for Apple."

In this scenario, Cook, the even-keeled and personable manager, is the person who can execute the plan and inspire the commitment of Apple employees. Less clear is whether anyone, even Jobs, could have forecast the ability of competitors, especially Korea's Samsung, and the persistence of cash-rich and smart competitors like Google and Microsoft, who have been steadily working to increase their share of the mobile world.

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Replaying Microsoft's history? Whatever happens, Apple has a massive user base and a mighty global brand name ranked No. 1 by advertising giant WPP. And it has more free cash than most sovereign states. This could have described Microsoft when its own founder, Bill Gates, left his longtime role as top manager. Steve Ballmer, a relentlessly bullish salesman for the company, took over leadership at a time when excess zeal had overtaken the tech world. New to his role, Ballmer told a group of business journalists in San Francisco in September 1999: "There is such an overvaluation of technology stocks that it is absurd."

When asked later for clarification, and what Microsoft should be valued at, Ballmer answered: "Less." The stock was $96 then, and climbed into triple-digits. After the bust, shares landed in the mid-20s, where they've remained, roughly, for most of the past decade.

Microsoft, of course, remains one of the world's most profitable companies. If not regarded as the most creative tech name today, it's widely seen as one of the smartest. Microsoft still generates enormous cash and a healthy dividend for stockholders, and Ballmer remains at its helm.

The mobile shift--first mover disadvantage. Could Apple be on the same track? Apple launched the era of sophisticated smartphones, just as Microsoft did when it created a new era of personal computing. In the interim, Google advanced the art of making money on the seemingly untamable information-wants-to-be-free Internet.

All are competing on the mobile front. Google and Samsung already have the largest market share in smartphones, with the Android operating system overtaking Apple's iOS. Consulting firm Gartner has also forecast a tripling of Microsoft's market share of tablet and smartphone systems, predicting it could even overtake iPhone in the years ahead.

Those figures could be disturbing for any Apple backer, although most analysts see room for the competing systems to thrive in the rapid expansion of mobile computing. Indeed, the multiple platforms could be a spur for technology innovation in general, creating new opportunities for the hundreds of companies developing products and applications for the operating systems.

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"I think the Apple concerns are overblown," said Sam Hamadeh, chief executive of PrivCo, which tracks private companies, many of which are developing mobile applications. He notes that he himself owns Apple stock. "Some are worried it will end up a Mac vs. PC story--where Mac market share dropped below 10 percent and developers stopped developing for the Mac platform, which became an unvirtuous cycle."

For the "foreseeable future, at least the next three years--an eternity in the tech world," Apple will remain the "thought leader" even if its overall share drops a bit, he says. Developers will continue to create products for both systems.

Jobs prepared the company with plans that make sure it will remain an innovator. "Knowing he was going to die he, left the company with a roadmap," says Jefferies analyst Mizek. "Do you think he wanted his legacy to go down in flames? It's too easy to say that this will create the downfall of Apple. His ability to cut through things and his drive will be missed. But it won't be the vacuum that the media describes."

Cassese says Apple remains a force, and the de-hyping of the stock could be healthy. "We could get back to fundamentals of each individual stock and sector and not be so Apple-obsessive as it has been in the past years. I don't look for another company to come along to take its place. That only happens once in a generation."

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