Apple as hegemonic swarm

The global Apple obsession is moving into high gear with the iPad3 on sale and the stock near $600, and what we and the world really need is another blogpost on the company, full of superlatives we have already read elsewhere. Baruch is happy to oblige.

Apple is increasingly the sun around which the planets of business revolve. Just taking the tech sector, there is now no major segment which is not being or will not be affected by this expanding giant ball of financial energy. To others (like Microsoft) it’s not a sun; for them, Apple is a black hole, sucking matter and energy into its gaping maw, or a hegemonic swarm, converting adjacent life into copies of itself and extinguishing diversity. For investors, especially ones focused on technology, Apple poses a quandary: do we need to own anything else? Don’t laugh, it’s a serious question.

There are 4 great hardware ecosystems in technology: PCs and servers is one, mobile phones another, TV and displays and their associated foodchains, and finally networking, either for corporate or telecom applications. Apple has for some time dominated 2 of them hands down: PCs (it is the biggest single manufacturer and is gaining share; Intel quakes as it waits for Apple to pronounce on its fate) and mobile phones, and has started pushing us all into the “post PC era” with the tablet, a market it dominates more completely than it does anything else. Now the true Apple TV is coming and while there is some debate about whether it will be as big a splash as previous products, another of the 4 will be crossed off the list, and whatever happens the TV foodchain will never be the same again. Do you really want to bet that Steve Job’s last gift to the world won’t be a hit?

Imagine yourself as the incumbent in a pre-existing industry vertical; what happens when Apple enters your space as a direct competitor seems fairly well documented by now. It sells an innovative, beautiful, connected product that you should have thought of yourself but never quite got round to, at a price most people can afford if they scrimp a bit. Your initial market share losses range between horrifying and worrying, and get worse from there. Your shares will be shorted, and go down. Count yourself lucky, however. Some industries, such as alarm clocks, Flip video recorders and portable game devices and software, get disaggregated entirely. They become irrelevant. At least, as you shrink into obscurity, you have a use, if only to Apple as a regulatory figleaf over the great tumescence that is their true market dominance.

For  component suppliers, things are a bit better but are only slightly less Darwinian; they get divided into “haves”, those who supply the great god of Cupertino, slavishly, at ever decreasing gross margins, and who fear his wrath, and the “have nots”, who dream of Apple contracts, plough their treasure into R&D to maybe get one some day. Until the day they do the share prices of the “have nots” are toast, their multiples halved. The”haves” see their shares rise until the day some Digitimes article says they are being designed out, and they drop 5% to 10%. On the day the design out actually becomes clear their shares decline by 20%-50%.

Clearly, pre-existing investments in any sector touched by Apple become much more dangerous. There are exceptions, for those who can piggy-back on the revolution — demand for networking equipment is probably much higher with Apple in the world than not, for instance. But the general trend is clear. On this reading alone, Apple’s success is diminishing the opportunity set for investors overall, while creating a risk for those opportunites that remain.

There’s another angle as well. Baruch was astonished to read that the earnings of the S&P500 grew a satisfying 7% year on year in Q4, a healthy clip coming out of a recession. However, that is only if you include Apple’s earnings; S&P EPS grew a measly 2.8% if you don’t. What does this mean? Does it mean that the US corporate recovery is coming off an extremely narrow base? Is it merely a reflection of how strong Apple’s earnings are? Does it mean anything at all? Probably not. But this is something to follow up on.

So what’s a punter to do? Well, the obvious answer is: own AAPL, though I don’t know if you want to dive full tilt into the stock at $600. If you are an institutional investor there is a problem, however, with a portfolio or a sector exposure consisting of one stock. This, I suspect, lies behind Apple’s uncannily low multiple. Lots of mutual funds have a 10% holding limit for any single stock — a limit that they cannot breach without rewriting the prospectus; AAPL is already well over 10% in many of the benchmarks they follow, or if not, they likely already own the stock up to their limit. They are maxed out. As AAPL relatively outperforms they get less and less overweight, and have less and less exposure. Some funds are in the position of being permanently involuntarily underweight with Apple at this market cap. It is getting less easy to find marginal buyers of the stock. At some point, you might expect, we could even run out of them entirely.

So you see the problem the phenomenon that is Apple causes. It is not a catastrophe; don’t for heavens sake sell your AAPL on the back of this blogpost*, or any mutual funds you may own that have a limit on position sizes (in fact I would be quite worried about funds which don’t have position limits). Also, I don’t mean to imply that this state of affairs will continue indefinitely; all things pass, no more so than in technology.

And I don’t mean to complain that much either. Imagine the moribund greyness of the world and the stockmarket without Apple, by far the most innovative, life-changing and dynamic company of our time. Entrusting our future to the HPs, the Nokias, the Microsofts and RIMs of the world would have been a disaster. Apple is a case in point of what technology can achieve. The tech sector, with Apple in it, is still the most exciting sector out there to invest in.

* I have said this before and I will say it again, but selling or buying anything on the strength of the opinions of some anonymous blogger, no matter how clever they sound, is very silly indeed and you deserve to lose all your money. Of course, it is OK to buy and sell AAPL if you were planning to do it anyway, for other reasons. Or possibly the same reasons as I am banging on about here, so long as you arrived at them independently. Or by mistake. That’s fine too, it happens to us all.

13 responses to “Apple as hegemonic swarm

  1. just be sure you price in how long they have until the jobs legacy products are commoditized, and compare the chart of nasdaq 98-03 to apple now.

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  5. “Imagine the moribund greyness of the world and the stockmarket without Apple, by far the most innovative, life-changing and dynamic company of our time. ”

    Sorry but when I read such drivel, I just cannot take the author very seriously.

    ‘Life – changing’…. ?

    It’s just a computer company ferrchissakes…

    • Apple certainly changed my life; I never knew how to keep my kids from bothering me at restaurants until I got an iPhone and iPad. Now I enjoy the bliss of adult conversation almost throughout the meal.

  6. Mah, I remember in 2002/2003 how Nokia ruled the world, the Eurostoxx 50 and their reserach was second to none. Actors, behaviourial scientists, everyone employed to make this wonderful product that would fit perfectly into your hand, deliver the most effective solution.
    And you get it all now for € 19.99.

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  8. I agree with Puntino. I’m not saying that apple is or isn’t a good investment, but I have never owned an apple product in my life. I own a dell laptop that I am happy with; I can use the internet, use excel and do all the work that I need to do, just as efficiently as someone using a mac. In addition I recently renewed a cell phone contract with at&t and bought, what I consider a kick ass samsung touch screen phone for $1 (normally priced around $350). I am 23 years old by the way, and all my friends have smart phones. I just don’t think I need to be constantly connected to internet; I am happy with a phone that I can use to talk to people, text people, take pictures, use as storage, and listen to music with.

    As far as the market valuation of aapl goes, if your buying it would seem that your main assumption is that consumers won’t turn into practical cheapskates like me.

  9. Space Ghost

    Apple doesn’t dominate the PC market, they’re actually #3 in terms of sales. HP and Dell both dwarf them, but Apple’s sales are growing. They’re pretty clearly targeting an affluent niche rather than trying for max sales in this particular industry.

  10. This ignores all the little software and add on developers that Apple supports. Sure, they don’t help you if you are some big corporate outfit, but there are tens of thousands of little LLCs, etsy sellers, iPad cover designers and the like who eke out a living in their ecosystem, an ecosystem that Apple created.

    What is sad is that a lot of companies could have done this well if they had taken their own products seriously, not pushed for every last dollar and been willing to listen to their own engineers.

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