Just a few months ago, buying shares of Apple (NASDAQ:AAPL) would have been the most obvious, one-way trade in the market. Now, with the stock down more than 25% in less than two months, it seems to be one of the most dangerous.
But for contrarian investors, the panic that now seems to be enveloping the stock is, in fact, Christmas come early.
What has gone wrong for Apple? For one, the story isn’t as clear-cut as it was during the spring and summer. Competition is heating up, profit margins are under pressure, and the launch of the iPad Mini is raising questions about whether the company has lost its innovative edge in the post-Steve Jobs era.
In reality, though, the price action isn’t about fundamentals right now.
As CNBC’s John Melloy wrote yesterday, the downturn is largely a result of too many investors trying to squeeze out of an over-owned stock at the same time. This herd behavior is causing Apple to overshoot on the downside, creating an opportunity for those willing to go against the crowd.
And a look at Apple itself, apart from the price action, paints the picture of a must-own stock.
Doorbuster Deal on AAPL
The first consideration is earnings potential. While Apple might be hitting the point where the law of large numbers is coming into play, analysts still are calling for revenue growth of 23.7% in the current fiscal year and 14.7% in the next. Comparatively, U.S. companies reported a top-line year-over-year increase of just 0.6% in the quarter just past — making Apple a standout in a world of low to no growth.
While some critics have questioned whether the company’s products are reaching the saturation point here in the United States, that ignores the lower penetration — and tremendous growth potential — in China and other emerging markets. In this sense, Apple stands out from the many other companies in the hardware sector — think Hewlett-Packard (NYSE:HPQ), Nokia (NYSE:NOK) and Dell (NASDAQ:DELL) — whose failure to grow or innovate has turned them into perpetual value traps.
At Apple’s current share price, investors certainly aren’t paying a premium for growth. At Thursday’s close, Apple stock was trading at 11.9 times trailing earnings and 9 times forward estimates — less if the $30.97/share in cash is factored into the equation. This equates to a price/earnings-to-growth (PEG) ratio of less than 1 — which can only be said for nine other U.S.-traded companies with market caps north of $100 billion.
The primary issue plaguing Apple stock in the past two months might be the lack of incremental new buyers, but value investors will soon enter the equation with AAPL at these levels. The average analyst price target is $763.92, 45% above Thursday’s close.
Three other aspects of Apple’s fundamentals are essential to the story:
- The products are “sticky” with consumers because of the content investment and the ability to synch various Apple devices — a huge plus now that the company is facing stiffer competition from Samsung (PINK:SSNLF) and others.
- Gross margins are under some pressure right now, but the vast majority of the company’s revenues are coming from new products, where margins typically are depressed. This indicates that any margin weakness is likely temporary.
- The company’s cash hoard means it has levers it can pull to spark renewed investor interest, such as a share buyback or a hike of its current 2% yield.
Should You Wait for a Bigger Discount?
The most important question, of course, is how far Apple stock’s price can fall from here.
While AAPL is already well off of its high of $705.07, it is sitting right above an area — the $450-$500 range — where there isn’t a great deal of historical volume. The lower trendline is just below $460, which is points to a worst-case scenario of another 12% downside from here.
Still, investors who wait for the stock to fall this far might miss the boat. At this point, Apple’s downturn is already so well-known that Drudge Report featured the story on Thursday. Look for opportunities to begin accumulating shares, and be ready to add aggressively if the stock approaches $500.
Is buying Apple stock the easy trade to make here? Definitely not. But the recent selloff has provided investors with the chance to pick up shares in a healthy, growing company at a very inexpensive level.
Who says there’s no Santa Claus?
As of this writing, Daniel Putnam owned shares of AAPL.