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Jan 3, 2019

Why Apple’s sales warning has rattled the currency markets.

By: John Stepek



Person holding an Apple iPhone © Getty Images
Apple is still too dependent on the iPhone

This article is taken from our FREE daily investment email Money Morning.


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Last year was a miserable one for the FAANG tech stocks. And 2019 hasn’t had an auspicious start either.
Yesterday, Apple issued a “revenue” warning. That’s a warning on sales, rather than profits, but it amounts to the same outcome – a big drop in the share price.
So what’s gone wrong for the world’s first $1trn company?

Apple’s problem: it’s still too dependent on the iPhone

In August 2018, Apple became the world’s first $1trn company. I imagine that will now go down in the annals of financial history as an obvious “top of the market” indicator.
By yesterday morning, Apple was worth closer to $750bn. And it’ll be less than that by the start of today’s US trading session.
That’s because, last night, the company warned that its sales for the final quarter of 2018 are going to be lower than it had predicted just two months ago. Apple had been expected to take in $89bn-$93bn in revenue. Now it’s more likely to be around $84bn.
Of course, two months ago, Apple also decided to stop reporting on unit sales of iPhones and other gadgets, which does hint at an awareness of the potential for disappointment somewhere along the line. And the shares have been struggling since then.
However, that didn’t stop them from dropping by more than 7% in after-market trading. So much for $1trn companies.
So what’s the problem? There are really two things going on here. One is Apple-specific. The other has more worrying and far-reaching implications for the global economy in general.
On the former point, this boils down to the same thing that has plagued Apple almost ever since it invented the smartphone. The iPhone is Apple’s flagship product. It’s not as reliant on iPhone sales as it once was, but they are still very important.
Apple has never come up with a “killer” product to replace the iPhone in terms of importance. The iPad was surprisingly successful at first, but a combination of product longevity (they last a lot longer than the average phone) and competition from ever-increasing smartphone screen sizes meant they could never be as revolutionary as the iPhone.
You can blame Apple’s chief executive, Tim Cook, for not being as innovative as Steve Jobs. But creating killer products is not easy. Who’s to say that Jobs could have made lightning strike yet again?
Anyway, every time Apple sees a slowdown, people get worried about peak iPhone. This is a perfectly valid concern, and in fact, we probably reached peak iPhone a good few years ago.
On smartphones more generally, there is only so much innovation you can get, and only so high that you can push the price, before the difference between this year’s phone and last year’s is simply not worth the cost of upgrading. Especially when you’re trying to make the case for buying a phone for over £1,000.
This of course, is why Apple is trying to make more money from digital services. Once you get customers hooked into your “ecosystem” via the phone, you then make money by flogging them software through the App Store, data storage via iCloud, or music via Apple Music.
It’s as if Betamax owned a chain of video rental shops (if you’re under 30, that entire sentence will probably be meaningless to you – just Google it).
Trouble is, while services are important, they are still a small chunk of the business – less than 15% of group revenue. With competitors like Amazon and Spotify, can Apple compete? Probably. But it’s a tougher market and when you’ve grown used to focusing on being a product and “design” led company, it’s not easy to shift focus.

The world’s problem: the Chinese economy is in bad shape

Anyway, those are the Apple-specific problems. They do matter for investors, because Apple is at the core of many other companies’ business models. Its suppliers have taken a hit today and so have some retailers.
But unless you are invested in these companies, it’s only of passing significance to you. What’s more interesting – and what rattled markets everywhere, particularly the foreign exchange market – is where Apple placed the blame. It’s all down to China.
“While we anticipated some challenges in key emerging markets, we did not foresee the magnitude of economic deceleration, particularly in Greater China”, wrote Cook in an open letter.
This adds to already lurking fears in the market that China’s growth is deteriorating sharply. Manufacturing data out yesterday also showed that factory activity in China was shrinking for the first time since May 2017.
But what was particularly striking is the impact it had on currency markets. There was something of a “flash crash” in the foreign-exchange markets, as Australian financial writer Greg McKenna points out.
The Japanese yen – which is a “go-to” currency when people panic – saw a brief surge in strength. It surged to ¥104.87 to the US dollar briefly before calming down a little to around the ¥107 mark. That’s a big move, even given thin liquidity conditions (due to holidays).
The Australian dollar meanwhile, sank. That’s because it’s viewed as one of the easiest ways to take a view on Chinese economic growth (or weakness). Indeed, the Aussie hit levels not seen since the financial crisis.
China has been the big concern at the back of everyone’s minds for some time. I suspect that this year is when it comes to a head, one way or the other. We’ll be checking in with the world’s second-biggest economy a lot more frequently in MoneyWeek magazine in 2019.
If you’re not already a subscriber, get your first six issues free here – it’s a great way to kickstart that New Year’s resolution I’m sure you’ve made about getting your finances in order.

Source: MoneyWeek

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