Upset the Apple Cart

 | Jan 24, 2013 | 9:00 AM EST  | Comments
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This commentary originally appeared at 8:45 a.m. EST on Jan. 24 on Real Money Pro -- for access to all of legendary hedge fund manager Doug Kass's strategies and commentaries, click here.

Since late September 2012, when I initially wrote "The Bear Case for Apple," Apple's (AAPL) shares have fallen in price from $700 a share to $470 a share.

What should investors learn from Apple's abrupt fall from grace over the past four months?

To me, Apple's fall speaks volumes regarding the risks of lemming-like behavior on Wall Street (especially at inflection points of popularity) as well as having more Apple-specific ramifications regarding the company's future profit growth rate.

The Lesson of the Markets

It is a given that the crowd usually outsmarts the remnants -- that the contrarian (regardless of the intensity and integrity of analysis) faces an uphill battle because inflection points in markets, economic cycles and of opinion are more infrequent than frequent, more atypical than typical. The contrarian's arguments are typically pushed back (and even ridiculed) by consensus players and the media, most of whom have a vested interest in up not down.

The most important takeaway is that unanimity of opinion often illuminates a dangerous path. When something seems too good to be true, it usually is. This observation might very well apply to the current almost universal bullishness on the part of most investors in which the line of demarcation between progress and fantasy is blurred.

The Lesson of Apple

As to Apple, it remains my contention (as has been the case since late September) that the company's secular earnings growth rate continues to be overstated by Wall Street analysts and investors and that a confluence of factors led to a peak in optimistic sentiment regarding Apple's share price four months ago. That optimism led to an unprecedented flow of funds into Apple's shares, the establishment of unrealistic company share price targets and unattainable profit projections.

As recently as Tuesday, on CNBC's "Futures Now," I surmised that Apple's consensus earnings estimates would move from the high $40s to closer to $40 a share for fiscal 2013. Nothing in yesterday's first-quarter earnings report moves me off of that forecast.

How Now, Apple?

Apple faces its own new normal -- a changing and more difficult business landscape with escalating competition that will challenge profitability over the next few years. The company faces competition in both its mature and emerging markets. Revenue will be moving toward single-digit growth rates and, when coupled with limited upside to margins, will limit future EPS growth.

Rather than having a tight group of bold estimates for profits and sales, I expect Wall Street estimates for Apple to diverge. Below is a good illustration of this; check out the difference in Apple revenue forecasts (2013-2014) between Morgan Stanley's analyst (low and realistic) and Piper Jaffray's analyst (high and unrealistic).

I expect that the hockey stick earnings progression seen over the past three to five years (from $9 a share to over $40 a share) is a thing of the past.

Price targets and earnings estimates for the company remain far too optimistic, and expectations will begin to be reduced in the period ahead.

Reflecting slowing growth coupled with still strong free cash flow generation, Apple's investor base will continue to change from growth investors to a more value-based constituency. As such, an obvious maturing in its business cycle will produce a diminished valuation and continued share price volatility as the investor base evolves and changes.

Though investor sentiment has turned abruptly negative over the near term (and has begun to discount my concerns), there remains few positive short-term catalysts for Apple in the months ahead.

As I surmised in my "15 Surprises for 2013," Apple's shares will likely continue to be under pressure in the first half of this year.

Bottom line: Apple's stock remains a trading sardine not an investing or eating sardine. As such, there will likely be numerous trading opportunities, but it is still too early to be a long-term investor in the shares -- there are simply too many headwinds.

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