Carl Icahn’s confident – but daring – bet on Apple

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Carl Icahn believes he has found a sure thing in Apple Inc. The market thinks otherwise.

The billionaire activist investor announced on Tuesday that he had bought another $500-million (U.S.) worth of Apple shares, following a dive in the share price.

Given that he disclosed last week that his ownership stake was worth $3.6-billion – he has been playing his hand openly on this investment – the additional purchase boosts his total exposure to nearly $4-billion based on Tuesday's close.

That's not pocket change, even for an investor with Mr. Icahn's financial heft. But he doesn't see his investment in Apple as an outlandish bet.

In fact, he called Apple a "no brainer" in a letter to shareholders last week and put it alongside some of his top investments in recent years, or at least the ones that scored him the biggest gains.

His confidence has nothing to do with any particular insight into new gizmos that Apple may be developing – he is likely as blind to the product pipeline as anyone outside the company's top ranks – but rather a feature of the stock that is readily apparent to everyone: It's cheap.

Right now, Apple trades below 12 times trailing earnings compared to a price-to-earnings ratio of nearly 17 for the benchmark S&P 500, creating what he calls a "valuation disconnect." The way he sees it, Apple's share price would surge some 50 per cent if it traded in line with the broader market.

And he believes it can, if the company opens the coffers and distributes more cash to shareholders in the form of additional share buybacks – he suggests $50-billion this year will "greatly enhance value for all long term investors."

Is he right? The market is taking a far less optimistic view of Apple's prospects following the release of its quarterly results on Monday evening. The shares slid about 8 per cent on Tuesday, hitting a three-month low even as the S&P 500 rebounded.

You have to give Mr. Icahn some credit here. He argued that the market was valuing Apple incorrectly before the selloff, and so buying more shares after the dip reinforces his view. The additional purchases also lend credibility to his claim that he is a long-term investor who can see beyond day-to-day volatility.

But look beyond the obvious – the company's strong brand and amazing ability to generate piles of cash – and it is hard to see a compelling reason to buy the stock at these levels.

The fact is, Apple is making people nervous these days: Based on its latest projections, sales in the current quarter could decline from a year earlier, marking the first revenue setback in a decade.

The disappointing outlook focuses attention on its lengthy dry-spell for product innovation. Apart from some tinkering, it hasn't introduced an entirely new tech device since the iPad in 2010.

Rumours of an upcoming Apple television set or a smartwatch have gone quiet, yet Mr. Icahn still seems confident that Apple has great things in its product pipeline.

"We may see in the not-too-distant future what new groundbreaking products they've been working on developing in Cupertino these last several years," he said in his open letter to Apple shareholders, referring to the company's headquarters in California.

Maybe. But that sounds more like faith than a no brainer. And although Mr. Icahn believes that Apple is a great investment based on its current product lineup alone, history doesn't reward companies that stand still.

The decline on Tuesday illustrated the point. Everyone knows that the stock is cheap based on earnings, that additional share buybacks and dividend increases are likely and that Apple is a formidable brand.

But no one knows whether these attributes have lasting power, and Apple hasn't been providing any clues. Mr. Icahn has made a daring bet. Following his lead is just as daring.