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Apple's new iPod nano comes in the usual array of uplifting colours and has a shiny, light-bending finish, but what’s new in this version is a tiny video camera. (Apple)
Apple's new iPod nano comes in the usual array of uplifting colours and has a shiny, light-bending finish, but what’s new in this version is a tiny video camera. (Apple)

TheStreet.com

Apple's decade: How it can hit $500 Add to ...

Editor's note: This is an excerpt of an e-book on Apple by Jason Schwarz, an options strategist at Lone Peak Asset Management in Westlake Village, Calif. His book, The Alpha Hunter, is set to be released by McGraw Hill in December 2009. He is also the founder of the popular investment newsletter available at www.economictiming.com. At the time of publication, Mr. Schwarz was long Apple.

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Let's take a moment to outline the key components of a good investment. Here is what I look for:

1. Economic Timing: As far as I am concerned, economic timing is the only way to find conviction in the stock market. The basic philosophy of economic timing is built upon the premise that you should invest in stocks when the economy is improving and you shouldn't invest in stocks when the economy is worsening.

I apologize to all you brilliant investors out there who utilize your sophisticated strategies, but backtesting shows that investing really is that simple. Those who seek to employ any other strategy are swimming upstream.

When the economy is improving, as it is now, I am on the lookout for the perfect growth vehicle to maximize returns. When the economy is worsening, it is no time to expect high returns and a book like this that suggests a stock may be on the verge of running should be put on the shelf.

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2. Market-Share Growth: Is the company gaining market share or not? If not, my research on that particular stock won't continue and it's time to find something else. How rigid are the barriers to entry in your industry? Are you vulnerable to getting knocked out by competition? These are vital questions to ask when analyzing a stock. A company that can affirmatively answer each of these questions is a prime candidate to be in the portfolio.

3. Price Momentum: Some stocks are stuck in a rut with no escape. You do not want to own one of these. I know of many stocks that have traded within a narrow range for 10 years or more. With such a small chance for upside potential, the threat is always looming of being blindsided to the downside.

For this reason, I don't like having these "tapped out" stocks in my portfolio. What causes a stock to get stuck in a rut? Obviously, companies with no growth belong in this category, but what about a market-share leader? Unfortunately, most market-share leaders are not great stocks to own because they have already reached the top. A company with nowhere to go but down represents a bad stock pick.

4. Expectations: Wall Street has turned into a game of analysts trying to estimate quarterly earnings data and companies striving to meet or beat those estimates. When a company can beat expectations, the stock benefits to the upside. The analyst community has become so sophisticated in its methods of projecting future earnings, that it has become more and more difficult for companies to deliver. Find a company that consistently exceeds expectations.

5. Uncertainty: The future by definition is uncertain. Investors hate uncertainty, and yet it is inherent in the system. So the key is to find stocks with positive uncertainty rather than negative uncertainty. What is positive uncertainty? Positive uncertainty arises when a company shows a trend of innovation that leads Wall Street to believe that more success might be around the corner.

Positive uncertainty arises when investors have a reasonable hope that the company might surpass earnings expectations. A company that can instill a sense of hope in its shareholders based on future catalysts to boost current output is the kind of uncertainty I look for. The opposite of hope is fear. If I fear a coming quarter, that is not a stock worth owning.

Now let's discuss Apple's stock-price potential for decade 2010. Evident by the chapter title, I'm forecasting Apple to reach $500 a share. My time frame is late 2011/early 2012 as Apple stock runs up to its typical January earnings release. With most forecasts, the exact number isn't nearly as important as the direction of the call, but with Apple, I do have a specific breakdown.

Certainly, the financial crisis of 2008 derailed much of the excitement over individual stocks, as it brought down all ships with the broad market. But now that the economic environment is improving, speculative capital will return to high-growth companies that are gaining market share. Apple is one of the few companies on Wall Street to have actually grown revenue during the recession. If it was able to grow during the recession, what will it do now?

Here is one of my six catalysts for Apple to reach $500:

iPhone Global Market Share

More than 50 per cent of the world's 6.7 billion people own a cell phone, yet only 19 per cent of the planet has access to an Internet link. This is the digital divide that I mentioned previously. Companies such as Apple are working to eliminate that gap by offering inexpensive mobile devices that can surf the Web to its full capacity. Going forward, the most important statistic for investors to track will be mobile Internet market share. Whoever wins this battle will be king of the new world.

It appears that Apple is winning the battle. On Sept. 30, 2009, AdMob released data that showed the iPhone's global Web market share reached 40 per cent. That doesn't mean that the iPhone represents 40 per cent of all smartphone units that are actually in the market, it means 40 per cent of the mobile Web traffic coming to AdMob's huge global ad network is coming from Apple. Apple is gaining while everyone else -- Nokia , Research In Motion and Symbian -- are losing market share. In the last six months, the iPhone has increased its mobile Web share from 33 per cent to 40 per cent. In North America, its share of the market is 52 per cent. This trend is a winner.

iSupply estimates that the smartphone market will increase from 184.2 million units in 2009 to 235.6 million units in 2010 (28 per cent growth) to 334.1 million units in 2011 (42 per cent growth). Smartphones still make up only roughly 15 per cent of the overall mobile-handset market. Within the smartphone market, Apple's market share increased from 7.3 per cent to 13.3 per cent according to data from Gartner in second quarter 2008 to 2009. Apple sold 78 per cent more iPhones in fiscal year 2009 over 2008. iPhone units are tracking a path similar to the early years of the iPod.

Could the iPhone one day grow to 70 per cent of the smartphone market? If it did, then we would need to raise our price target to $5,000 instead of $500. The point is, there is much upside to the current 13 per cent global market share among smartphones and the current 2.5 per cent market share among mobile phones in general.

A report by OTR Global claims that Apple has contracted to product a UMTS/CDMA hybrid iPhone due in the third quarter of 2010 that will operate on all carriers. That means the end of iPhone/AT&T exclusivity domestically and it infers the end of international exclusive distribution deals as well. The research note also identifies the new phone as having a smaller screen than the current 3.5-inch display.

AT&T has struggled to keep up with the networking data demands of iPhone users and as a result has kept many potential customers away from the product. The potential of Apple releasing the iPhone through Verizon in 2010 is a big catalyst for this stock. My forecast is for Apple to sell an average of 14.8 million iPhones per quarter in 2011. This equates to a total of 59.2 million iPhone unit sales for the year or a 17.7 per cent share of the expected 334 million unit/year smartphone market.

See you at Apple $500.

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