Commentary on Political Economy

Wednesday 28 February 2024


‘Sell Apple’

To justify its current valuation, everyone everywhere needs to spend $800 a year on Apple products, says UBS
© FTAV montage

Let’s be clear from the off. UBS isn’t predicting that Apple will fall nearly 30 per cent and destroy $800bn of shareholder value. It’s just putting forward some reasons why it might.

The note’s from Andrew Garthwaite, UBS head of global equity strategy, whose team has (belatedly) published its 10 potential surprises for 2024. None represents the bank’s core views. For Apple, the analysts call for the stock to ascend gently to a $190-per-share price target to justify their “neutral” recommendation.

The more bearish $130-per-share valuation on Apple is a hypothetical exercise. Here’s how they got there:

1. The valuation looks a bit nutty:

80% of revenue is [Apple’s] hardware yet the stock trades on a software multiple; UBS, even in 2027, forecasts just 4.3% FCF yield. The P/E relative of the stock on UBS 2026E EPS (against the market) goes to a record high of 152% on the UBS forecast of earnings.

Apple’s relative PE © UBS

2. Earnings forecast upgrades are meek, at least relative to its peer group. Among the Mag7, only Tesla (whose shares are down 20 per cent so far this year) has weaker EPS momentum than Apple:

3. How many iGadgets can the world afford?

With just 1.2bn people having an income above $12K a year, Apple is valued on an EV per pop of c$2,300, which requires c$800pp of annual spend, on the global equity strategy team’s calculations.

4. And how many does it really need?

The smartphone cycle is mature (at 70% penetration rate globally, US 82%, and even India now at a penetration rate of 62%).

5. Apple already sells TV and music streaming, cloud storage, gaming, payments, advertising, etc. What worlds are left to conquer?

The profit margin of the service sector (which accounts for 20% of revenue) has, in the opinion of our analyst, peaked at 70% as Apple needs to find incremental services with large TAMs, with much of the core service growth (such as cloud, warranty) tied to the installed base and is thus only growing by mid-single digits.

6. Where’s Apple’s ChatGPT? Where’s its . . . uh, Motorola StarTAC?

Apple has no product in foldables (1% of market, used to be 20%), and there appears to be no obvious AI strategy.

7. Where’s its Galaxy S24 Ultra?

The upgrade to Gen AI smartphones may not only disappoint, but Samsung Electronic seems to have stolen a lead with its smartphone. (Indeed, SEC GS24’s Gen AI applications took centre stage at the Unpacked launch in January with a multiyear partnership with Google).

8. Antitrust. Google reportedly pays Apple between $18bn to $20bn annually to be the iPhone’s default search engine. If that deal is picked apart by the US Department of Justice, it could knock about 8 per cent off Apple’s EPS, UBS says.

9. Politics:

There is a clear China risk (with China accounting for 20% of its revenue and its market share of 20% vulnerable to both geopolitical tensions and local competition) and 90% of its sourcing comes from China. Any sharp risk to China (be it political or economic) is thus bad for Apple.

10. The AI bubble. UBS’s research directs readers to a separate section on technological change where it argues that most preconditions of an early-cycle bubble are already present.

Productivity-hype bubbles are usually separated by at least 25 years and usually form at the end of a secular bull market, when aggregate profits are coming under pressure, say Garthwaite et al. Market breadth suffers as weakening earnings mean investors crowd into a few perceived winners, pushing their valuations to extreme levels.

A bubble, at least by the UBS definition, also needs central bank money printing and heavy retail involvement in equities. Neither of those are present yet. The former is a near-term likelihood in China, however, and not implausible in the US as the Federal Reserve winds down quantitative tightening. And while corporates have been the dominant buyers of equities over the past year, there’s $6tn of dry powder sitting in money market funds that could be dislodged by lower interest rates:

The S&P 500’s last 20-per-cent drawdown was less than two years ago, which goes against the historical trend that bubbles are bull markets gone stale. The exception is the Nifty 50 bubble of the early 1970s, which compressed a crash, a peak and another crash into roughly three years. Something similar might be happening now, UBS argues.

As we’ve noted previously, sellside analysts at big investment banks don’t often advise selling their clients’ most popular stocks . . . 

. . . so having dissenting voices pop up elsewhere in the building is a very welcome trend.

Further reading:
— ‘Sell Nvidia’ (FTAV)

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