critical analysis
oooo
ApplesBaselessValuation.docxHere are two critical analysis as examples
Apple’s Baseless Valuation
As reported by TheStreet last week ( Apple Is More Than Just iPhones, Bullish UBS Note Says ), UBS analyst Steven Milunovich raised the price target for Apple by over 10% from $190 to $210. While such a valuation would certainly drive Apple beyond an anticipated $1 trillion market cap, it is flawed in at least three respects:
· Value depends on the business model, the strategy.
· Don’t mix what you know with speculation.
· Anchor a valuation on what you know, rather than speculation.
Milunovich bases his claim on the idea that Apple is more than the iPhone, and that it’s other products have room for growth. Indeed, while Apple offers additional hardware (Mac, iPad) and services (Music), there isn’t any solid evidence in support of a growth claim. More troubling is his statement that “…the next big thing is not in sight…”. So what exactly is the expectation of growth based upon? Surely the suggestion that Apple’s “consistency and optionality…could improve the P/E over time” is a bit vague, nor is it rooted in Apple's business model.
Similarly, the report assumes that consumers will make a shift toward “more expensive, higher-end versions of the phone”, without offering any real support. Perhaps there’s a new model in the works (there usually is!) that Milunovich is privy to? Maybe he knows that Apple plans to eliminate less expensive models, in effect forcing consumers into pricier versions? If he’s aware of either, he isn’t passing it along in his valuation.
While optimistic, the valuation is based on nothing more than speculation. Milunovich clearly sees the value of Apple increasing, but isn't able to support such a claim. We are told nothing of Apple's strategy for growth, so we're left wondering where the anticipated growth will come from. Is Apple hinting at that "next big thing"? Did Apple stumble onto a key sustainable competitive advantage to steal market share from competitors like Samsung? We're not really sure, so the analyst's valuation appears to be anchored on speculation, rather than what is known.
Sources:
2. Stephen H. Penman. Financial Statement Analysis and Security Valuation.
Is The Stock Market About To Crash?
Top of Form
I saw this article today on CNBC entitled “ David Stockman: Stocks will plunge 50% in this 'daredevil market' ”.
The article is written by Stephanie Landsman but she is mostly reporting on what David Stockman has forecasted. He is predicting a dramatic drop to the whole stock market primarily because the stock market has seen “about eight or nine years” of expansion and that the last two stock market downturns were about 7 or 8 years apart. He also notes that the Trump tax cuts are, for the most part, not having a noticeably large positive impact on the economy, but that the market is still pricing in a large positive impact. David Stockman is also fearful that a “black swan” (some unpredictable event) will result in this dramatic stock market drop. He does state that he believes that we could see the EPS for the S&P 500 drop to $75 from where it is currently, around $192. This would definitely affect the fundamental value of the S&P 500 stocks but he doesn’t specifically say why earnings in this country will drop so dramatically (other than he thinks we are due for a recession) and why he specifically predicts $75 per share (maybe because that was a low in 2010).
David Stockman’s prediction about a stock market plunge seems to be largely based on a gut feeling rather than a numerical analysis of the market. The risks he brings up are real but I don’t think it logically follows to say that the stock market must crash anytime soon if it has had a long run of growth (especially if that growth is supported by fundamental value). I found this document with a chart comparing earnings growth and price growth for the S&P 500 from May 2008 until about a month ago. It appears to me that the S&P might be a little overpriced right now but in general, it seems like the price is tracking with earnings. It is inevitable that we will encounter another recession in this country but I have not seen any compelling evidence that our next recession is on the near-term horizon, in fact it seems like we are still in the natural upswing following the “Great Recession” that started in 2008 (more on accelerating earnings growth can be found in the same document I linked to above). Gut feelings about the future are not without value but they are accompanied by the potential pitfall of overreacting or underreacting significantly to information based on your emotions at the moment. Basing your predictions about the future on concrete facts paired with accurate, realistic, and reasonable models is, in my estimation, a much surer path to correct predictions.
I also want to say that our current period of growth in the stock market may be unprecedented in recent history but that does not mean it will not continue for the foreseeable future. The fact that in 2008 we began the most dramatic economic downturn seen in this country in almost 80 years (i.e. “unprecedented in recent history”) to me means that it is less likely that we can rely on patterns seen in “normal” times to hold true for events related to that downturn, like the recovery period that is following it.
