Why You Shouldn't Own Apple Stock

This article isn't intended as a be all, end all hit piece on Apple. Instead, it's exactly what the title says. I'm laying out a good reason, not the only reason, to not own Apple. 

Apple has a great business model. They've managed to hang on following the passing of Steve Jobs. Many people didn't think they'd last this long. I dislike Apple and its products because it functions as a walled garden. It reminds me of AOL in the 1990s. Not as a company or stock comparison, but the business model. Many people like myself enjoyed taking computers apart, coding them, and surfing the Internet. Other people want limited functionality and are willing to pay through the nose for security and reliability. Apple provides that and they're able to milk these customers year after year after year. Changing the adapters and headphones and so on, genius from a profits over everything view. Colonel Kurtz went to Silicon Valley after serving in Vietnam.

Psychology

No matter how great a company may be, stocks trade on psychology most of the time. Unless Apple cures cancer or makes some kind of incredible breakthrough that doubles their business inside of 5 years, they aren't going to escape market psychology. If there is a bear market, Apple goes down. If there's a bull market, Apple goes up. Whatever news you have on the company doesn't matter.

Regulatory Limits

Now to the reason why it's not worth owning Apple. In a nutshell, the SEC limits how much a fund can own in one stock and it limits how much a fund can overweight in its top holdings. This piece—Apple and Microsoft Hit Their Natural Limits—explains and has a link to more in-depth explanation of why Apple and Microsoft are hitting limits within growth funds. Since then, Apple is also approaching limits in tech funds.

This chart below shows the price ratio of Apple and SPDR S&P 500 (SPY). That spike past the "brick wall" is Apple outperforming during the summer rally.

The brick wall exists because that the level at which funds closely tracking growth indexes have to start considering if they want to keep Apple and Microsoft at market weights or start selling them off to give more weight to stocks such as Amazon and Nvidia, or smaller names. Regulations limit how much a mutual fund or ETF can weight its largest holdings. For some funds such as SPDR Technology (XLK), Microsoft plus Apple is near 50 percent of assets. Let's say in the index, Apple is 24 percent, Microsoft 23 percent, and Amazon 6 percent. That comes to 53 percent of assets. A fund in this situation would have to sell AMZN to less than 5 percent of assets or trim 3 percent from MSFT and AAPL. This could also happen naturally if  Apple or Microsoft underperform.

The situation has deteriorated for Apple during the recent rally, a rally that has carried Apple to within a few percentage points of its all-time high.

If Apple outperforms the market by around 5 percentage points, funds such as XLK and VGT will become forced sellers of Apple. It is still possible for Apple to outperform and rise as a percentage of the index, but there will be increasing numbers of forced sellers if that happens. It will also work in reverse. If Apple outperforms in a bear market, eventually funds will be forced to sell more of it. Additionally, funds can't sell other stocks instead such as Nvidia since those stocks will probably have lower liquidity, causing a bigger drop and triggering a need for even more forced selling of Apple. There's going to be a big neon sign in every fund office when redemptions rise in a bear market. It will say, "Sell Apple."

Apple has to overcome forced selling that will intensify as it outperforms the broader market or the tech sector. Apple needs a major positive catalyst that brings in investors who make up for all the passive and active funds that will become forced sellers of Apple.

Why Is Apple Outperforming?  

The fact that Apple outperformed during the recent stock market rally strikes me as bearish. It tells me investors or fund managers are fearful. Instead of buying beaten down tech names, they bought more Apple. Worth noting here that Intel went higher into September 2000 in what I see as a similar scenario. 

Conversely, if the market is going higher, then Apple is all but guaranteed to underperform from here because it'll hit some selling pressure. Outside of a positive black swan, its not possible for Apple to repeat the outperformance of the past two months.

Finally, bear markets shift market leadership. Apple has been outperforming for 20 years. It has the largest weighting of any stock in the S&P 500 Index going back to the early 1980s. If this is a bear market, then Apple is highly likely to be a bear market victim.

The prospect of owning Apple here, with no ultra-positive catalyst, is to all but guarantee underperformance versus the broader market in a bull market or be in the vicinity of ground zero next time the bears rampage. Even if you think people will sell Apple last, if stocks such as Amazon, Google, Microsoft, Visa, Mastercard, Nvidia and so on tumble, the weighting of Apple in funds and indexes will force selling of it as funds stay within regulatory rules. At some point, active managers will figure this out and front-run by reducing their Apple stakes.

Conclusion

Investors need a very strong reason to own Apple here. One might be taxes. An investor who wants to be heavily invested in tech and has a large, long-held Apple position in a taxable account might decide the tax hit is worse than a bear market they don't believe in. Second is any very positive catalyst that could propel Apple to a much larger weight in the S&P 500 and tech indexes, overcoming any regulatory selling pressure. Third is a roaring bull market that carries Apple higher with everything else. In combination with taxes, that would be a reason to hold. For everyone else, there's a low probability of Apple outperformance moving forward. If this is a bear market, there's a high probability of substantial underperformance. Apple could be one of the top targets for bearish investors in a bear market because the stock and its options are highly liquid. Not only do I see no point in owning it, there's a case for it being a top short.