Apple (Nasdaq: AAPL) Shareholders Beware!

by David Eller

[caption id="attachment_30923" align="alignright" width="220" caption="Apple (Nasdaq: AAPL) seems to be a safe haven for investors because it has little competition and new product announcements coming up, providing new sources of income."]Apple (Nasdaq: AAPL) Shareholders Beware![/caption]

Making money in the markets is a combination of being smart enough to recognize value, confident enough to execute on good ideas, and humble enough to take profits.

It’s extremely easy to get greedy and overstay your welcome in a stock and give profits back…

And Apple investors could be heading into such a trap as more aggressive competition and a non-event product release provide the excuse for professional fund managers to take money off the table.

Apple’s stock has had a huge run, but may be running out of gas. Apple is up 67% from the beginning of the year and 17% in seven weeks since missing Wall Street expectations in July. Since gapping down after earnings, the stock has rallied $105 and sits just off of its all-time high of $680. This dramatic move is incredible, fantastic, amazing… and just maybe too good to last.

Lock in Profits Ahead of a Risky Situation

Apple (Nasdaq: AAPL) seems to be a safe haven for investors because it has little competition and new product announcements coming up, providing new sources of income. So people have been holding their breath and buying on the dips, thinking the good news will continue. But what if the good news is already in the price? Or worse, what if Apple’s announcements can’t live up to high expectations? A pullback could be dramatic because every money manager under the sun owns more of it than he should.

I like Apple, the company, for too many reasons to discuss here – but Apple, the stock, seems risky. With the stock at its 52-week high, it makes sense to use the recent strength to sell calls against your position and protect yourself from the event risk of the September 12 product release. In short, lock in profits ahead of a risky situation.

What’s happening? On September 12, Apple is hosting a product announcement where the iPhone 5 will be demonstrated and availability will be announced. Since the iPhone 4S was evolutionary rather than revolutionary, expectations are high for new features in the next handset. There are so many potential pitfalls that the company can fall into, that people should either protect themselves from a shallow decline by selling calls at the least. More active investors should think about selling the stock outright today and buying it back after the announcement.

Expectations are high for a stock that’s topping out. The press and analysts have been wildly speculating about what could happen on the 12th:

  • New hardware announcements, such as a larger screen or a whole new design.
  • Software improvements, including iOS6 with greater Siri integration with applications.
  • New products such as the iPad mini or Apple TV with a set top box.
  • A ship date for the iPhone 5 that’s before the end of the quarter in September, which would make September quarter earnings look great.

Of these ideas, only the last two would actually make the company more money. So, let’ take a closer look at the meaningful ones:

New Product Announcements – Everybody knows that Apple is announcing a new handset and a new operating system. Adding another product into the mix would dilute the marketing impact of these two announcements. Since Siri is a big feature, and a key point of differentiation from Samsung and Motorola's new handsets, Apple will need to educate the market. Making multiple announcements would conflict and confuse people. I've been using iOS6 for three weeks and believe that voice controls could revolutionize mobile computing the way that Nintendo's Wii controller revolutionized video gameplay, so the company probably won’t want to risk it. More announcements mean less press for Siri.

September Ship Date - There will be plenty of time to ship boatloads of handsets before the end of September if the company does make the new handset publicly available before quarter end – but much of this is already in expectations. Investors have already been paid for this, but what happens if it doesn’t ship by quarter end? Apple will have to wait another three months to see the income. What does this mean for you? For being a loyal shareholder, you can expect the stock price to get slammed back as low $620.

Clearly, the downside risk is scary, so how do you prepare for the event?

Buying puts is always an option, but an expensive one with September 14 $675 puts selling for $12.

However, selling calls against your position would protect you against a minor decline, give you time to sell while the option prices plunge, and benefit from the time decay. The price of these calls will also drop substantially, even if the stock remains flat, since the volatility component of the option price will be reduced. September 14 $670 calls are selling for $16, which would lock you in at a sale price of $686 if the stock goes up and if the price declines as we expect.

Selling the stock immediately before the announcement will ensure isolation from event risk, but we’re probably not the only people thinking about taking profits after such a dramatic run. So if you are considering selling, it might be worthwhile to sell a few days ahead of the announcement and beat the professionals to the punch.

Either of these techniques will provide you with downside protection and choosing which one depends on your risk tolerance and ability to act on news intraday. We've made profits in Apple throughout the year and will again in the fourth quarter, why not reduce risk ahead of a widely anticipated event?

Good Investing,

David

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