Why Apple is the Perfect Stock for These Uncertain Times
While most polls got the outcome of the presidential election wrong, one prominent analyst called it exactly right.
On Oct. 31, Sam Stovall, chief investment strategist at CFRA, told CNBC that the S&P 500’s 2.2% decline from the end of July through the end of October indicated that Trump should win. Historically, a decline in stock prices over those three months has forecast a win for the candidate from the party that is not in the White House.
Stovall noted this indicator was correct in seven of the eight past instances, a win rate of more than 87%. Statistically, you could argue the sample size is too small to be meaningful, but the logic behind the indicator is simple.
A rising stock market reflects a public that is most likely happy with the economy. Because they are generally satisfied with the way things are, they vote for more of the same. On the other hand, a declining stock market reflects pessimism. People are either selling or not buying stocks because they’re worried about the future. When they vote, they want a change.
This indicator proved to be right once again, and even though we now know Donald Trump will be our next president, there is still plenty of uncertainty about our future.
In times of such uncertainty, our best bet is healthy stocks that the market seems to be undervaluing. And that’s exactly the case with Apple (NASDAQ: AAPL).
Apple’s products are well known, and the company is widely followed on Wall Street, with 41 of the 48 analysts publishing opinions on the stock rating it a “buy” or better. Yet, AAPL appears to be undervalued on a number of fundamental metrics, most likely because the company’s performance is easy to interpret different ways.
When it comes to Apple, bad news and good news are often mixed together. Take this CNET headline about Apple’s recent earnings report for example: “iPhone sales slump. Apple still raking in billions.”
The company reported its third successive quarter of declining iPhone sales (bad news), but the 45.5 million iPhones sold in the quarter beat analysts’ estimates of 44.8 million (good news). However, this represented a 13% year-over-year decline (bad news again).
Total revenue for the quarter was $46.9 billion, and the company’s net profit was $9 billion, or $1.67 per share, all of which was down year over year, but still indicative of strong financial health.
Analysts expect earnings per share (EPS) of $9.04 for fiscal 2017 (ending in September) and $10.07 for fiscal 2018. Earnings growth is expected to average 8.7% a year over the next five years, which is an attractive growth rate for a stable, mature company in the current environment.
The amount of cash AAPL holds is also a significant positive. The latest quarterly report indicates AAPL is holding $237.6 billion in cash and cash equivalents on its balance sheet, more than $44 a share. CNBC noted, “If the company’s massive cash pile was its own company, it would be the seventh largest in the S&P 500 and the fourteenth largest public company in the world.”
That cash can be used to invest in new products, buy other companies or reward shareholders through dividends and share buybacks. It’s a valuable asset that almost seems to be ignored by investors.
At current prices, AAPL trades with a price-to-earnings (P/E) ratio of about 13, a significant discount to the broader stock market, which has a P/E ratio of 19.
On average, the S&P 500 has traded with a forward P/E ratio of about 15. Using fiscal 2017’s expected EPS of $9 provides a price target of $135 for AAPL. The consensus 12-month target is just below that at $130.
So, why is such a stable company trading 18% below the consensus target price right now?
Apple did not participate in the post-election rally, as the company could face a big tax payment on overseas holdings and President-elect Trump’s trade policies may hurt the company’s international sales. The bigger picture answer, though, might be as simple as investors believing Apple’s best days are behind it due to market saturation and recent innovation struggles.
But the company is profitable and likely to remain so for years to come. And with its large cash balance, management is likely to increase its dividend in the future and fund research and development efforts to improve its current products and maintain loyal customers.
I think the stock makes a great choice for investors in these uncertain times, especially given how undervalued it is. I also recently told a group of traders how they could pick up shares 20% below the consensus target.
I’d like to walk you through the details of that trade to highlight a strategy you may not be familiar with. But please be aware that this is for educational purposes and not a recommendation. (If you are interested in getting real-time trade advice, you can follow this link.)
The strategy is known as selling put options, and it is a conservative income strategy that is extremely underutilized by everyday investors.
Selling Puts on Apple
A put option give the owner the right — but not the obligation — to sell a stock at a specified price (the strike price) before a specified date (the expiration date). When you sell a put, you are obligated to purchase that stock from the put buyer if shares are below the strike price at expiration.
On Nov. 2, AAPL closed at $111.59, and I recommend selling a November put option on the stock with a strike price of $104 for a minimum of $0.35 per share.
So, selling these puts generated immediate income of at least $35, because each contract controls 100 shares of the underlying stock. This contract obligates the put seller to buy AAPL at $104 a share if the stock trades for less than that on Nov. 18 (the last day these options can be traded). Since they brought in $0.35 per share in income, their cost basis is actually $103.65.
If AAPL is below the $104 strike price at expiration, they’ll get to buy shares at a 7% discount to where they were when the trade was initiated and 20% below the $130 consensus target. I’m not sure about you, but that’s a level I’d be more than comfortable owning shares at.
Now, if Apple is above $104 at expiration, the put seller is no longer obligated to buy shares for that price. But the income generated is theirs to keep free and clear. In essence, they’ve just been paid to do nothing except agree to potentially buy shares of a stock they want to own anyway at a lower price.
This’s why I often call put selling the closest thing to a win-win you can get in investing.
As I mentioned, the above trade is not a recommendation I’d want you to enter now. While my Income Trader readers got into the trade in early November and everything looks great headed into expiration on Friday, the option prices have changed since then and do not offer the same risk/reward scenario.
You could certainly sell another put on Apple or a different company you’d be happy owning at a discount. But first you need to determine your own criteria for selecting the right stock and put option.
I have a checklist of my own, which I’m proud to say allowed me to book 134 winning trades out of 140. If you’re interested in learning more about my method or getting real-time put selling trade ideas, go here.