My portfolio in general is stable, but my performance is lagging the general market by a significant amount in 2013 because I am overweight in Apple Inc. (NASDAQ:AAPL). I got overexcited in the short-term and did not see that the company was rapidly evolving, possibly for the worse. In order to analyze my own mistakes over the past few months, let me get back to basics and define some core principles of investing that I usually adhere to. These principles usually have protected me from doing stupid things and in general are good ways to hedge your bets and avoid big losses.
Back to basics
1. Diversify between asset classes, especially ones that don’t run together.
Diversifying between domestic equities (small and large caps), international stocks (Europe, Japan, emerging markets), REITs, bonds (short and long term) and other asset classes can provide some protection from concentrating on one sector (mobile or PC makers, in this case).
2. Dollar cost average into positions.
Decide on an amount of money to invest over the year and invest every month. This is easier to do with mutual funds, but you can do this with individual stocks easily as well. In this case as Apple shares find a bottom you end up buying more shares as the price is lower, and fewer as the price rises. Seeing as the next year or two will be critical to Apple Inc. (NASDAQ:AAPL) in terms of its product cycle, this would make sense if you believe, like me, that some new products will goose up the stock price.
3. Options are highly flammable, use with extreme caution.
The time expiration of options kills you if you are wrong about the timing of stock moves. In my case I was betting on one big event and should have hedged that bet by buying puts or not making the bet at all, since my March contract expired worthless.
4. Look at some basic technical indicators in the chart, particularly if you are investing for anything less than the long haul. Proceed with caution if the trend is against you.
The crossing of the 200 day moving average with that of the 50 day moving average is frequently cited as a quick and dirty indication of the technical trends. To me, it is a caution flag. In this case, there was a lot of bad news coming out in terms of decreased demand for Apple Inc. (NASDAQ:AAPL) iPhones and iPads, and the stock price reflects the nervousness of big investors.
5. If you think you are right and the evidence or valuation is in your favor, hang on if the premise for buying remains intact. If your premise for buying breaks down, then you need to sell. Sell if the business has fundamentally changed and no longer fits your plan.
Valuations
All of these principles apply to what has happened to the stock price of Apple. Apple Inc. (NASDAQ:AAPL) is currently sitting near a 52-week low, and is selling at a valuation level that to me screams buy. But the best approach to those wishing to wade in cautiously is to dollar cost average and spread the investment over a longer time frame — possibly a year or two.
Apple is being compared to Microsoft Corporation (NASDAQ:MSFT), but looking at the valuations, Apple is currently selling for a PE of less than 9 and Microsoft is currently at a PE of greater than 15. Are Microsoft’s products more popular or superior to Apple’s products? Some might argue yes, but I say that Apple has held its own against Samsung and Google Inc (NASDAQ:GOOG), which are the most immediate threats in the mobile space.
Microsoft Corporation (NASDAQ:MSFT) has been desperately trying to enter the mobile space with Windows 8, but has only been met with muted success. Apple, on the other hand, is a leader in the mobile space with real products that sell well and should continue to sell well into the future. The market is saying that, based on PE ratios, Microsoft Corporation (NASDAQ:MSFT) is much more valuable than Apple Inc. (NASDAQ:AAPL), and I don’t buy that premise. Both companies pay a good dividend and produce great cash flows, but I see Apple holding its own given the stickiness of its ecosystem and the loyalty of its customer base.
Apple supplier Cirrus Logic, Inc. (NASDAQ:CRUS) announced weaker guidance for the rest of the year, and that broke the previous low around $420 for Apple shares. Cirrus Logic is selling for the ridiculous PE of less than 8, having been hammered in the Apple plunge. Cirrus Logic, Inc. (NASDAQ:CRUS) produces audio component chips for iPads and iPhones, and relies on Apple for 50% of its business, so by predicting future shortfalls, the market is seeing that as a proxy of falling demand for Apple.
The stock market at this point is predicting a total collapse of iPad, iPhone and Mac sales. These devices are taking off in emerging markets, but Apple may be missing the price point necessary to capture these high growth areas of the world. Microsoft, on the other hand, can target that lower price point if it decides to be more aggressive about pricing its software. Apple Inc. (NASDAQ:AAPL) has staked out a higher price point and may miss out on that growth, particularly in China, India and other emerging markets. Android software is free and thus has the advantage in these markets.
I don’t think Apple sales will collapse, and I am riding out the storm. With a cash position of $150 billion, the absolute low that Apple stock could hit (besides zero with a bankruptcy) would be between $150-$200 a share. While its products going forward may turn out to be more evolutionary than revolutionary, that does not justify current valuations. Apple is in much better position than Dell Inc. (NASDAQ:DELL) or Hewlett-Packard Company (NYSE:HPQ), both of which are selling at valuations comparable to Apple.
My advice is to slowly dollar cost average into Apple Inc. (NASDAQ:AAPL) if you don’t own the stock. If you believe that Apple remains grossly undervalued then hold on to the Apple shares you have now. At these levels, the madness may take a year or two to be resolved, but I’m a firm believer in the company fundamentals and the ability of Apple to innovate in the future. There are a number of rumored products in the pipeline, and I see Apple developing at least one or two of these with some success in the next two years.
The article Lessons Learned from the Apple Debacle originally appeared on Fool.com and is written by Erick Santos, M.D., Ph.D..
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