Technology

Apple's Key 2020 Dilemma: Wall Street Cannot (or Will Not) Keep Up With It!

Jon C. Ogg

Published: January 3, 2020 10:55 am

Last Updated: January 30, 2020 11:36 am

There is no doubt that 2019 was a stellar year for stocks. The Dow Jones industrials rose 22.3% and the S&P 500 ended up with a 28.9% gain, but the tech-heavy Nasdaq rose 35.2% for the year. Apple Inc. (NASDAQ: AAPL) is the largest U.S. company by market capitalization at close to $1.3 trillion, and Apple led the Dow’s gains by posting a total return of about 86%. To top it off, Apple rose by 2.3% on the first trading day of 2020 to hit $300.00. Looking backward is fun, but looking ahead to see where things will be in the coming months is what matters most.

Apple is now the second-highest weighted stock in the Dow Jones industrial average, as the index is price-weighted, but Apple is the largest component in the S&P 500 Index and the largest of the major Nasdaq indexes due to its market cap-weighting. Apple has a serious potential threat as it enters 2020 in that Wall Street just has not caught up to it.

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Despite that 86% gain to close out 2019 at $293.65, the community of Wall Street analysts is still way behind the curve. The consensus Refinitiv analyst price target at the start of the year was just $266.22. That would imply an expected price drop of about 9.3%, or an 8.2% decline on a total return basis after factoring in the mere 1.1% dividend yield. Some investors will try to convey that this means Apple is just overvalued and cannot keep running higher. What is more likely at this stage, at least without having the benefit of a crystal ball, is that Wall Street is going to have to do some serious catching up on Apple.

Daniel Ives of Wedbush Securities led the first wave of major target upgrades by taking on the highest analyst target price from the sell-side universe. The rating was left as Outperform, but he raised his target price to $350 in December, calling for 2020 to be the elusive year of the iPhone super-cycle. There is also the services business to consider, as well as the endless apps and services within Apple’s ecosystem that are locking people in for life.

As far as what we expect to see in 2020, analysts are likely to start stepping all over themselves to raise Apple’s target prices. Most analysts have Buy or Outperform ratings as is, but their price targets need to catch up in a serious way. Sadly, most (but not all) analysts at the start of each year do not issue major price target changes and conduct their major upgrades during the final 10 days of December, and they do not return with their big price changes until the first full trading week of the year.

One issue to consider is that Apple shares rose and rose (almost 15%) from the start of December through the first trading day of 2020. That took the shares from a perceived “fair value” to well above the consensus target price. Two firms jumped first in 2020 with big target price upgrades. Tuesday’s top analyst upgrades and downgrades showed that RBC Capital Markets reiterated Apple as Outperform and raised its target to $330 from $295, and Merrill Lynch reiterated its Buy rating and raised its price objective from $290 to $330.

The RBC call raised near-term estimates after its social media web-scraping showed higher customer interest and satisfaction with the iPhones and an increasing interest in wearables (AirPods). The outlook for the fiscal year 2021 5G lineup also warrants a higher earnings and cash flow multiple that investors should be willing to pay.

Merrill Lynch’s Wamsi Mohan suggests that all its current data suggests continued revenue strength, including continued double-digit App Store revenue growth and positive input trends from the Merrill Lynch proprietary Apple indicator. Merrill Lynch’s assumption is now 19 times 2021 earnings of $17.40 per share, and the firm raised its multiple from a prior 17, based on multiyear iPhone visibility and continued services growth. That report said:

In our view iPhone demand remains strong and in Oct and Nov Apple increased iPhone channel inventory by about 0.5mn units. We see the first quarter as a strong quarter and maintain our estimates… Longer-term Apple benefits from (1) 5G adoption, (2) strong wearables portfolio, and (3) continued year-over-year gross profit dollar growth which is favorable for stock price trend.

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Merrill Lynch’s investment rationale even lists eight ongoing reasons to love Apple:

(1) valuation remains inexpensive,
(2) cyclicality of product cycles is less material as revenues can grow on a consistent basis,
(3) unit disclosure changes are likely to matter less as the company pivots to a rev/user model and drives higher spend per user across all Apple devices/services,
(4) loyal user base,
(5) installed base of iOS still growing,
(6) services penetration remains low,
(7) demographic changes in Apple’s favor,
(8) strong FCF and capital returns.

Apple remains a significant potential upside wildcard for the Dow’s performance in 2020. If analysts keep raising targets, which seems more likely than analyst downgrades (can you imagine the unpopularity of saying “Sell Apple” to your clients right now?), then it could bolster the expected 2020 gains for the stock market just that much more.

While Wedbush was the biggest jump of all, other analysts issued target hikes in December that may have to be revisited or ratcheted up in the coming weeks. Piper Jaffray raised its target to $305 from $290 on December 20, Cowen raised its target to $325 from $290 on December 17, and Evercore ISI raised its target to $305 from $275 on December 11.

Those December price target hikes sound impressive enough, but Apple shares closed at $259.45 as recently as December 3, and they rallied almost every day since, closing at $300.35 on the first trading day of 2020 for almost a 16% gain in that short period. It also looks like Apple only had four trading days when there was even a slight loss in the stock after that December 3 low close.

Lastly, while it may seem premature, there might even be more of case for Apple to be the first U.S. company to reach a $2 trillion valuation.

Apple shares were down just 0.4% (−$1.35) at $299.00 late on Friday morning. That’s with the Dow down 0.8% and the S&P 500 down 0.8% on the heels of escalating tensions after a U.S. airstrike took out a top Iranian commander in Iraq.