Caution: Speed Bumps Ahead for Apple Stock

Stock Watch

Caution: Speed Bumps Ahead for Apple Stock

The recent dip in shares of the iPhone maker reflects more serious concerns about the company.

When Apple (symbol AAPL) unveiled the iPhone 5 in September, the phone met with the rave reviews that have become a routine part of Apple's new-product-introduction hoopla. The company set records for pre-orders and first-weekend sales of the coveted devices. Yet since then, the stock has fallen 10%.

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Apple investors can hardly complain about a tumble of nearly $70 when the stock, at $634.76, is still up an astounding 57% year-to-date (all prices and returns are through October 15). And in part the slide may be a result of Apple's success. Apple shares hit a record closing high of $702.10 on September 19, so some investors might simply have felt it was a good time to lock in gains. (And with the top tax rate on long-term capital gains scheduled to rise from 15% to 23.8% in 2013, it may indeed be an opportune time to harvest profits.)

Plus, it's hard to envision who would be large natural buyers of Apple's stock today. "Most growth-fund managers already have large positions in Apple," and may not want to own more at almost any price, says Josh Spencer, who covers Apple for T. Rowe Price and manages T. Rowe Price Global Technology Fund (PRGTX). The stock accounts for about 8% of the Russell 1000 Growth index, against which many managers of large-company growth funds measure themselves. At the same time, with the stock up so much this year (not to mention all but one calendar year since 2003), a mere 10% drop may not be enough to lure value investors, Spencer says.


But the tumble may be indicative of a bigger worry in some investors' minds: That the post-Steve Jobs Apple is going to lose its mojo one day, and that day could mark the top for the stock. In March 2012, we wrote that there were four signs investors should be watching for as indicators of a turning point for the shares: If Apple's pipeline of new products dried up, if it ran into hurdles in China, if the company's price-earnings ratio surpassed its projected earnings-growth rate, or if it started to get sloppy on product quality. Today, techies are awaiting the debut of the iPad mini later this month, Apple's prospects in China still look bright, and the stock looks attractively valued.

But investors may have gotten spooked about quality issues. Some consumers have complained that the case of the new iPhone 5 scratches too easily. Brian Colello, an analyst who covers Apple for Morningstar, says the commotion over the cases reminds him of Antennagate, when some consumers reported problems with the then-new iPhone 4 antenna in 2010. "It was a very publicized issue, but I don't think it ever really affected sales," says Colello, who calls the current noise about scratches "a nonissue."

He's more concerned about the fiasco involving Apple's decision to replace the Google Maps application with a mapping system built in-house. Users have reported disastrous results with the app -- including entire cities gone missing -- and chief executive Tim Cook has even issued an apology. Colello says it made sense for Apple to introduce its own mapping app, but unveiling the app before it was ready for prime time was an uncharacteristic misstep. "There is perhaps a sense that this is not something that would have happened under Steve Jobs," he says.

Additionally, although Apple set a record with first-weekend sales of more than five million iPhones, the figure still fell short of some analysts' forecasts. Apple might have sold more phones had it not run out of supply. The company reported that it was unable to meet initial demand for the new phone, implying problems with its supply chain. Colello believes Apple has had trouble obtaining a sufficient supply of a cutting-edge chip used in the iPhone 5. He expects the issues will be resolved by the next time Apple releases a new product.


Although investors and consumers should continue to monitor quality issues at Apple, these recent hiccups hardly signal imminent doom for the stock. Plus, by some measures, the shares still look like a terrific bargain. They sell for just 12 times estimated earnings of $53.44 per share for the fiscal year that ends September 2013, a price-earnings ratio that's well below projected earnings growth of 23.2% over the next three to five years. Moreover, Apple's P/E is below that of Standard & Poor's 500-stock index, yet "the company's expected growth rate is more than twice what's expected from the broader market," says Scott Kessler, who covers Apple for S&P Capital IQ. His 12-month target price for the company is $800, 26% above the current price.

At the same time, investors who haven't looked in on their Apple holdings lately may want to take the recent bump as a wake-up call. You can use Morningstar's Instant X-Ray tool to figure out just how much Apple you currently hold, either through direct positions in the stock or through funds or a combination of both. Even if Apple can live up to its own past, anything more than a 3% allocation to the stock is probably too much, and anything more than 5% definitely is. It's not time to bail on Apple. But for those who are heavily invested in the stock, it might be time to trim back.

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