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Five Reasons Apple Stock is a Buy – Money Morning

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With Apple Inc. (Nasdaq: AAPL) bears feeling vindicated by the company’s fall from grace and shares hovering in the $400 range, it might sound like a stretch to say Apple stock is a buy.

But given all that’s happened, AAPL at $400 is a better deal than it may appear.

“It’s obviously been hit, but it’s bounced. It’s held up,” said Money Morning Capital Wave Strategist Shah Gilani. Pointing to the recent volatility in the markets, Gilani said, “The markets have been hit really hard and Apple has held up beautifully.”

Now it’s not likely that Apple stock will take off again like it did a few years ago and shoot up 100%.

But despite slowing sales of the iPhone, the company is still generating profits at the rate of about $40 billion a year and sports a P/E of less than 10. And it now has a dividend yield of about 3%.

The landscape may have changed for Apple over the past year, but it’s certainly not the dead money that some believe it is.

In fact, Apple stock could very well be on the verge of a nice little ride to the upside, at least to $500 and maybe beyond.

There are several reasons to think that a rebound in Apple stock is in the offing.

Five Reasons Apple Stock (Nasdaq: AAPL) is a Buy

Reason #1: Sellers Have Been Washed Out

“Wall Street has basically given up on Apple,” Business Insider CEO Henry Blodgett wrote in a Daily Ticker column last week. Just as sentiment on Apple stock was overly optimistic in its dramatic run-up, so now has it become overly pessimistic. Apple stock has slumped more than 40% from its peak of $702.10 reached last September, and has hovered around $400 since March.

But just about everyone who was panicking over the drop in price has sold the stock. We know this is the case because of AAPL’s relative stability through several recent volatile market sessions, as Gilani pointed out. That has set the stage for a reversal to the upside based on a string of positive developments.

Reason # 2: The Low-Cost iPhone opens Up New Markets

One of the primary concerns dragging down Apple stock is that the iPhone isn’t seeing the sort of sales growth it did in its early years. Since the iPhone is responsible for about half of Apple’s profits, that’s a problem. But while competition from Android-based phones has taken a toll, the real issue is that the market for pricey high-end smart-phones is nearing saturation. That’s why rivals like Samsung Electronics (OTC: SSNLF) and HTC Corp. (OTC: HTCKF) have gotten hit with slowing sales, just as Apple has.

But Apple may be about to spring a game-changing solution on the market – an iPhone that almost anyone in the world can afford, yet preserves the company’s high profit margins.

While Apple never discusses products in development, many are convinced that such a “cheap iPhone” will debut as early as this fall. It would give Apple the chance to capture hundreds of millions of new customers in places like China, Brazil, Russia and India.

Credit Suisse analyst Kulbinder Garcha believes Apple could sell a low-end iPhone for $329 and yet preserve gross margins of about 38% — only slightly lower than the gross margins for the flagship iPhone 5.

Over time, as production ramps up and costs per unit come down, Morgan Stanley analyst Katy Huberty thinks a low-cost iPhone could end up with gross margins better than he iPhone 5.

By 2015, Garcha sees a low-end iPhone gobbling up 40% of the market for phones in the $300-$400 range and adding $5 per share to AAPL’s earnings.

Reason #3: Customer Loyalty

If Apple’s low-end iPhone does indeed bring millions of new customers into the Apple fold, it will bode very well for Apple stock long term. All those people will get a taste of Apple’s legendary ease of use, as well as its very “sticky” iOS ecosystem of music and apps.

In fact, Apple has an almost unheard of customer retention rate of over 90%.

“That’s really unique in the history of consumer products,” Raymond James Managing Director Tavis McCourt told CNBC last week. “As long as the subscriber base is growing like it is, and we believe it’s growing 30%-plus, at some point that retention rate and the subscriber-base growth will turn into earnings growth as you get a product worth upgrading to.”

McCourt thinks Apple stock is a strong buy, and has given it a price target of $600.

Reason #4: The iWatch and Beyond

Another major factor that has pulled Apple stock lower has been the absence of the Next Great iThing. But lately many reports have surfaced of Apple securing trademark rights to the name “iWatch” in such far-flung places like Russia, Mexico, Japan, Taiwan and Jamaica.

Wearable computing figures to be one of the next big trends in consumer electronics — with Google Glass being an early example.

While the existence of the iWatch is speculative, it’s a device that makes sense for Apple (it supposedly would pair up with a user’s iPhone.)

While an iWatch probably would only add incremental revenue and profit, it could play a vital role in reversing Wall Street’s perception that Apple has lost its ability to innovate.

Furthermore, an iWatch could be a first step toward an entirely new business for Apple – embedded computing. That’s when you have computer functionality built right in to your car or even your clothing.

Apple has the brainpower on board to do embedded computing better than anyone else.

Reason #5: The Cash Hoard

On the one hand, Apple’s $145 billion cash stockpile is another positive for the stock. For one thing, the cash alone accounts for about $150 per share, which makes the current price of $412.71 look like even more of a bargain.

But that’s not all. The cash is also a factor in Apple’s dividend. At the moment AAPL’s payout ratio is a ridiculously low 19%, which not only means it can easily afford the dividend it pays now, but can afford to raise it substantially in the future.

And one more thing. Gilani noted that Apple will earn much more on its cash pile if interest rates rise as many believe they will over the next year or so. More oddly, though is that even the money Apple recently borrowed to pay for its dividend will be a plus.

“Their $17 billion bond offering is actually going to be a positive for them in terms of their financial metrics because under the wonderful accounting rules, as bond prices fall for the debt that they’ve issued, they get to declare that as a profit because technically they can buy that back at a cheaper price,” Gilani said.

For another take on Apple stock, check out Money Morning’s Apple: Don’t Hate the Player, Hate the Game

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