This commentary previously appeared on Real Money Pro on May 16, 2016, at 1:30 p.m. ET. Click here to learn about this dynamic market information service for active traders.
This morning's news that Warren Buffett has stepped into Apple (AAPL) is a positive sign for a stock that has been embattled in recent weeks. Buffett's company, Berkshire Hathaway (BRK.A, BRK.B), disclosed that it has purchased nearly 10 million shares of the consumer tech giant. (Apple is part of TheStreet's Action Alerts PLUS portfolio.)
Buffett has a reputation for buying stocks that are fundamentally attractive, and Apple fits this bill nicely. As of Friday's close, Apple traded at just 10x earnings. Meanwhile, the S&P 500 trades at about 23.65x forward earnings.
Technically, the news couldn't have come at a better time. Apple recently closed beneath its 200-week moving average (red) for the first time since 2009. The stock hasn't had a weekly close beneath $90 (dotted line) in over two years. A break of that level could create additional selling pressure as it is the main support for a topping pattern. That pattern could be described as a head-and-shoulders with two right shoulders (L-H-R-R).
In order for Apple to achieve a similar valuation to the S&P 500, the stock would have to climb above $200. Compare this to Tesla Motors (TSLA), which trades at 63.3x next year's anticipated earnings. If Tesla was given a valuation of 23.65x anticipated earnings, its price would fall to about $80. If Tesla was given the same valuation as Apple (10x anticipated future earnings), its price would fall below $40.
Is 10x future earnings a fair price for Apple? Statistically speaking, yes, but markets aren't always fair. Buffett is betting that this cheap stock won't get much cheaper. I believe he's right.
Apple is well-known for creating blockbuster products that disrupt markets. Unfortunately, it's been a while since the company has had a new bona-fide hit. Shareholders were hoping the Apple Watch would fit that bill, but that product remains a disappointment, both in sales and functionality.
Many analysts are comparing iPhone sales in 2007 -- the year the product was launched -- to Apple Watch sales in 2016. This is a false comparison; in 2007, Apple wasn't the dominant global juggernaut it is today.
Over the past four quarters, Apple has sold 221.5 million iPhones and an estimated 12 million to 13 million watches. In other words, Apple sells 17 to 18.5 iPhones for every watch.
Consider that the market is arguably saturated with iPhones, while relatively few people own the watch, and it's easy to see why many view the latter as a disappointment. It's not too late for the watch to become a hit, but first Apple will need to give it broader appeal by improving its functionality.
