Being Right Versus Making Money
10 Stocks to Hold Forever–Part Five
About a week ago I was talking to a friend who works at the local Apple store. It’s a part-time job for him (he has a full-time job, too), and he loves it; he’s been an Apple enthusiast for decades.
And it’s got some nice perks, like employee discounts on products—though there’s a cap on how much he can buy. But the perk he was raving about is the one that allows him to use payroll deductions to buy Apple stock (AAPL) at a 15% discount. He’s putting aside 10% of his paycheck for that purpose, hoping it’s his ticket to wealth.
At the time, it didn’t seem appropriate to tell him that might not be such a great idea (for two main reasons). But I’ve thought about it since, and decided it was worth writing about here, for everyone.
So, the first reason this practice is not recommended is a familiar one to financial advisors. By investing in his employer, my friend is not diversifying, he’s concentrating his investments, and if things go sour at Apple that can really hurt.
Admittedly, Apple is not his primary employer, so this alone is not as big a stopper as it can be in other cases. But it’s worth noting.
Much bigger, however, is my conviction that Apple’s main uptrend is over, and that the highs the stock saw late last year are unlikely to be topped for many years. I’ll explain why below.
But first, a little background.
Back on April 19 of last year, when Apple was trading at 600, I wrote this:
“The one quantifiable negative I can see is that AAPL is owned by more than 1,000 mutual funds. Also in the same category is the fact that Apple is the most richly valued company in the world, that the stock is the largest component of the major stock indexes and that it’s the largest holding of numerous institutional investors.
“And what’s wrong with that?
“Well, these institutions own Apple because doing so helps them match the performance of the indexes, because not owning AAPL would bring critical questions from their shareholders/trustees, and because it’s a very liquid investment.
“But eventually, the stock’s popularity will backfire. Eventually, a time will come when all possible owners already own AAPL, when there are no potential buyers left … and that’s when the sellers will take control.
“I saw it happen with IBM. I saw it happen with Microsoft, and I have no doubt that I will see it happen with AAPL. I simply don’t know when.
“But I’m fairly confident that the stock’s long, profitable uptrend is closer to its end than its beginning.”
Apple, of course, hit 700 in September, but since then it’s been underperforming the market.
In fact, on December 3, after AAPL had fallen to nearly 500 and then rebounded to nearly 600, I did a longer piece on the stock—including a detailed comparison of AAPL to KO (that’s Coca-Cola)—that included this:
“I’m bearish on Apple stock today and here’s why.
“There’s a dirty word to describe what happens when a company’s growth slows, and when the perception of the company’s future becomes slightly tarnished. As that word spreads, and as those perceptions spread, the stock slowly collapses, as the supply of stock (potential sellers) overwhelms demand (potential buyers).
“The dirty word is deceleration, which is a fancy phrase for slowing down. And Apple is decelerating! That third quarter earnings growth of 23% followed second quarter earnings growth of 20%. Those were the slowest quarters since mid-2009! And looking forward, the projected 12% growth in 2013 is even slower, though 18% for 2014 provides hope.
“Now, 12% growth is nothing to sneeze at; many companies would kill for 12% growth. And 18% is excellent! But it’s quite a comedown from the nine consecutive quarters from 2010 into 2012 where Apple’s earnings grew more than 50%! It’s deceleration.
“And that brings us to the stock’s performance, which is where the rubber meets the road. Because more important than numbers, more important than sentiment, is the stock’s actual performance.”
Here I launched into a rather technical comparison of the similarities of AAPL’s apparent top in 2012 and KO’s topping process in 1973, concluding…
“… after 1973, as sentiment turned, and the selling pressures slowly overwhelmed buying pressures, KO’s relative performance line turned clearly negative, beginning a pattern that lasted many years longer than most investors could stomach.
“And that’s very likely where AAPL is today.
“So when you put it all together…
• The extremely high market cap
• The extremely positive public opinion
• The extremely high level of institutional ownership
• The deceleration of earnings growth
• The weakening relative performance line
… it looks ominous.
“Now, big, well-respected stocks don’t collapse overnight. To the contrary, when a high-quality stock like Apple pulls back, you’ll hear a new chorus of “It’s a great value down here” and “Buy the dips.” But as time goes by, and the stock fails to return to its old highs, those choruses fade, and the stock falls slowly out of the limelight—just like Coca-Cola did in the 1970s.”
Since I wrote that in December, the broad market has given us a spectacularly broad blast-off. Participation in this upmove has been phenomenal.
But AAPL has been left behind! In fact, while the broad market was soaring, AAPL was souring briefly, falling below the psychologically important 500 level.
Since September, Apple’s market capitalization has fallen from $658 billion to $474 billion. And where did that $184 billion go? Some of it disappeared into thin air, as investors in Apple sat pat and the stock’s price declined.
But much of that value was transferred to thousands of other companies, as investors sold Apple and bought something else, in many cases helping to drive those other stocks higher.
Being Right versus Making Money
Which brings us to the concept of being right versus making money. I might be wrong about Apple; I’ve been wrong before and I’ll be wrong again. But the goal in investing is not to be right; the goal is to make money.
As an investment advisor, therefore, my conclusion is simple. Your odds of success are much better in those stocks that are acting bullishly today, especially the lesser-known names that are breaking out to new highs, than they are in AAPL.
The Company is Not the Stock
Now, you may have noticed that the above analysis of Apple ignores the recent news about slowing production of iPhones. That news may or not be true, but it hardly matters to me. In part that’s because this is short-term news, and in part that’s because it is widely disseminated. In short, because everyone knows it, I don’t need to think about it; the market has already discounted the news.
But more importantly, I don’t care a lot about that little news, because that’s about the company, and I care more about the stock. And as I’ve said again and again, “The company is not the stock.”
I love Apple the company. I’ve been a customer for 26 years and I use a MacBook Pro, an iPad and an iPhone every day. But I don’t love AAPL (the stock) today because it’s begun the long process of transitioning from a much-loved growth stock to a well-respected—but ordinary—value stock.
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In recent weeks, I’ve been writing a series called “10 Stocks to Hold Forever,” featuring 10 stocks, selected by Cabot editors, that you might choose to, well, “hold forever.”
The fifth stock is F5 Networks (FFIV), and it was selected by my daughter Chloe Lutts, editor of both Dick Davis Investment Digest and Dick Davis Dividend Digest. As a product of the digital age, Chloe has an acute awareness of the growth potential of all things digital, and her selection reflects this.
But as editor of the Dick Davis Digests, she hasn’t actually had a chance to write about F5, so the best I can lead with is Mike Cintolo’s recommendation, from Cabot Top Ten Trader, from January 23, 2012.
“F5 Networks is riding the wave of the mass conversion of computer usage from individual PCs to a networked system that optimizes information access and exchange along with network security. This move to “the Cloud” is in full swing, and F5 Networks is a leader in the movement, with application delivery controllers (ADCs) that make networks faster, more flexible and more secure.
“F5 reported its quarterly earnings last Wednesday, and investors were moderately pleased with revenue and earnings, but very impressed with the company’s guidance. The company counts 43 of the Fortune 50 companies among its clients, along with huge majority of other industry leaders and tech companies. With six quarters of after-tax profit margins in excess of 25%, the company clearly has an attractive product mix and a knack for delivering value. Fears of a further deceleration in growth here also abated, helping the cause.
“FFIV was a tractor from March 2009, when it was trading at 18, to January 2011, when it topped out at 146. Eight months later, FFIV was putting in a two-month bottom at 70 in August and October 2011. Now, after gapping up to 120 off a five-week base at 105, FFIV has cleared most of its overhead and looks to be ready to run. Look for a pullback of a couple of points as a buying opportunity.”
When Mike wrote that, the stock was at 121 and it did climb to 139 by early April. But concerns about slowing growth at the company—along with earnings disappointments—sparked a wave of selling that took the stock down to a low of 81 in November. Of course, that trend, like all trends, went too far, and now FFIV is trending up again, and analysts are raising their earnings estimates.
But it’s not out of the woods; in fact, my long-term chart shows that FFIV remains in the broad sideways basing pattern it’s been tracing since the start of 2011, two years ago. And it might keep doing that!
But eventually, I think it will break out, because the business is still growing! And because the long-term prospects for the company are very bright, as the Cloud grows, and the tools that enable efficient operation of applications and delivery of data continue to evolve.
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Yours in pursuit of wisdom and wealth,
Editor of Cabot Stock of the Month
10 Forever Stocks – 2013:
The fourth forever stock is from a leader in information solutions, leveraging one of the largest sources of consumer and commercial data...
The sixth stock in the forever stocks series is a company that focuses mainly on people in a professional network, and on giving them tools and connections...
This forever stocks series was introduced with Thomas Phelps's Stocks to Buy and Hold Forever idea...