Apple Stock: Incredible Value or Value Trap?
Few stocks are quite as difficult for investors to pin down as Apple (AAPL) is.
On one hand, the company looks like a downright bargain based on backward-looking valuation measures like its price-to-earnings ratio or a discounted cash flow valuation based on analysts' (likely optimistic) estimates.
On the other hand, Apple heavily depends on selling its customers the latest and greatest iPhones and iPads to meet expectations and grow its revenues and profits. And while Apple has had quite a track record in recent years, there are no guarantees that it will be able to keep continuing to encourage people to upgrade their gadgets every few years to keep that streak going.
So Which Is It?
If Apple continues to create hits and convince customers to keep upgrading the Apple platforms they already own, then today's stock price could look like a bargain in the future. If it can't, then its shares have plenty of room to fall before they look cheap based on their book value (value of accounting assets, minus liabilities).
The risks are real. In the phone business, competitors using Google's (GOOG) Android platform or even Microsoft's (MSFT) Windows phone can either take share away from Apple or keep the lid on Apple's ability to charge premium prices.
In the tablet business, both Microsoft and Amazon (AMZN) have viable products that aim at Apple's offerings. And even if Apple stays ahead of the competition, a slowdown in the upgrade cycle could hurt its prospects nearly as much.
Unfortunately, it's impossible to know for certain which of those futures -- or another one entirely -- awaits Apple and its shareholders. As an investor, your big problem is that by the time you know for certain, it'll likely be too late to profit from the news. If you own its shares and the future turns out poorly, you risk losing money. If you don't own its shares and the future turns out incredibly well, then you'd miss out on the potential gains.
What Can You Do?
An uncertain future awaits every company. In Apple's case, the split in future possibilities plays in front of a global audience. If you invest in Apple, you should proceed with caution.
Invest, if you'd like and if you believe in that brighter future, but don't heavily overweight Apple in your portfolio. Spreading your bets between different investments is one of the cornerstones of value investing as described by Benjamin Graham, the man who taught investing to Warren Buffett.
Put the Odds in Your Favor
In Graham's world, the stock market acts like a roulette wheel, but with a twist. An investor who pays attention to companies' values and who appropriately diversifies by spreading bets across companies in different industries can get the equivalent of house odds on that roulette wheel.
%VIRTUAL-article-sponsoredlinks%As in roulette, there are no guarantees in the stock market, and any given investment can go sour. Still, with enough investments in companies that appear to be decent values, with picks spread across companies in different industries, you can tilt the odds in your favor. In roulette, the house doesn't win on every spin, but with the odds stacked in its favor, it generally does win over time. In investing, the best you can legitimately hope for is the same.
Treat your investment in Apple like a spin on the roulette wheel and invest accordingly.
Motley Fool contributor Chuck Saletta owns shares of Microsoft and has an options position on Apple. The Motley Fool recommends Amazon.com, Apple and Google. The Motley Fool owns shares of Amazon.com, Apple, Google and Microsoft. Try any Motley Fool newsletter services free for 30 days.