Are Apple shares rotten heading into earnings? - Stock Market News



Apple, the world’s most valuable company by market cap, will release its latest earnings report on Thursday July, 28 after the market close. The results are expected to be mediocre, making it difficult to justify the hefty valuation premium that Apple shares command over the broader market. On the bright side, there are new projects in the pipeline and the enormous buyback program could help limit any selloffs.    

Rotten Apple 

The cost of living crisis has taken a bite out of Apple. Growth in hardware products such as iPhones has been slowing for a year now as struggling consumers rotate away from ‘luxury’ goods. The demand picture deteriorated further last quarter, with China locking down and the unstoppable US dollar putting the brakes on foreign sales. 

It’s not only demand. Apple warned back in April that supply constraints will hit revenue this quarter. And with raw material costs soaring, the company’s margins are under pressure. Raising prices enough to defend profit margins could lead consumers to wait before upgrading their products and dampen demand further, so it is not an attractive option.  

Instead, Apple is trying to manage this pressure by reining in costs. Some recent reports suggest there are plans to slow investment and hiring next year, in response to the darkening economic outlook. 

Dismal quarter, but low bar

Wall Street expects a dreadful report. In the second quarter, earnings per share are expected at $1.16, which would represent an almost 11% decline from the same period last year. Revenue is projected to have essentially stagnated, rising by only 1.5% over the year to reach $82.7 billion. 

It sounds bad, but it’s even worse once you account for inflation. Since inflation is running at around 9%, anything less than that means the company’s revenue contracted in real terms. 

It certainly looks like a dismal quarter, and in case of a disappointing report, the shares could break below $151.50 and aim for a test of the $143 region. 

Remember though, markets work on expectations and surprises. The bar has been set so low heading into this earnings report, that it will be relatively easy for Apple to overcome it. Indeed, the company has a history of beating earnings estimates, having done so in 11 of the last 12 quarters. 

In this case, its shares could edge up for another test of the $156 region. The 200-day moving average is nearby, currently at $158.6. 

Valuation vs hype 

The main problem with Apple’s stock is the valuation. Its shares are still trading at a hefty premium to the S&P 500, even though growth is stalling. That’s a recipe for trouble - it leaves the stock vulnerable to a sharp selloff in case investors lose confidence or the economy goes downhill. 

Apple would need to grow its earnings 50% faster than the overall market in the coming years for its current valuation to make sense. Market participants seem confident it can do it, but ‘confidence’ can turn on a dime. Before 2019, Apple used to trade at a discount to the S&P 500. Stories change. 

One of the reasons investors are so optimistic is that Apple has several products in the pipeline. It will unveil new iPhone models later this year, new Apple watch variations, alongside new desktops and laptops. It also has some moonshot projects such as a virtual reality headset that’s expected next year, and there’s even an Apple car under development. 

Bottom line

All told, Apple is certainly a wonderful company with a loyal customer base that has a bright future. The issue is that the shares already reflect this rosy narrative - a lot of future growth is baked into the cake.

Markets are saying the current problems are transitory and Apple will resume its impressive growth trajectory soon. But what if it stays stuck on slow gear? The current valuation doesn’t allow any room for error. Fortunately, Apple has a gigantic share buyback program, which should help mitigate the damage in case the stock does sell off. 

Finally, keep in mind that because of Apple’s massive weighting in indices like the S&P 500, its results could impact the entire market, not just its own shares. 

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