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Why hedge funds are dropping Apple

If you've been trying to figure out what mutilated Apple Inc.'s stock, here's one clear and convincing piece of evidence: hedge funds fleeing from the scene.

Fortune.com technology writer Philip Elmer-DeWitt, who specializes in Apple, reported over the weekend that the no-longer-darling tech stock's 40-per-cent plunge since mid-September has dovetailed with a mass exodus from the stock by some of the biggest hedge funds in the United States.

He cited a research note last week from Citigroup Inc. strategist Tobias Levkovich, which showed that at the end of the fourth quarter of 2012, only 10 of the 50 biggest U.S. hedge funds had Apple among their 10 biggest holdings - down from 23 in the third quarter, and 20-plus in each of the previous three quarters. Until the fourth quarter, Apple was the most popular top-10 holding among the hedgies; now it's No. 4.

Mr. Levkovich's report also showed that among the 50 biggest U.S. mutual funds, only 14 had Apple as a top-10 holding at the end of the quarter - down from 22 as recently as the 2012 second quarter.

Okay, that shows us that some big money was pouring rocket fuel on the Apple fire sale. It doesn't tell us why.

Henry Blodget, infamous dot-com-era tech analyst who has become a popular finance blogger and Twitter personality (nearly 75,000 followers), has some ideas. Mr. Blodget, who re-tweeted the Fortune item on Sunday, listed plenty of good reasons for the funds to jump ship: "Growth rate tanked, margin dropping, no new products, [management] uncertainty." This is not meant as a judgment on anyone's character, but hedge fund managers are kind of like rats - they are highly attuned to changes in an investment's momentum, their survival depends on jumping out of stocks that have begun to take on water, and if you see them fleeing en masse, you should probably worry.

In the case of Apple, it certainly looks like the fund managers called a top on the company's profit margins. After spectacular margin expansion for a decade (topping 43 per cent in the fiscal year ended Sept. 29, 2012), Apple's gross margins have taken an unsettling dip in recent quarters, and the company has warned of even lower margins to come.

That's all the hedgies needed to see. After all, they've seen this movie before: Research In Motion Ltd. RIM's spectacular fall from stock-market grace began almost precisely when its margins started downward.

Now, Apple isn't RIM. It might never become another RIM. But a lot of smart money isn't waiting around to find out.

ROB Insight is a premium commentary product offering rapid analysis of business and economic news, corporate strategy and policy, published throughout the business day. Visit the ROB Insight homepage for analysis available only to subscribers.

Apple (AAPL)

Close: $437.87 (U.S.), up $6.15

© 2007 The Globe and Mail. All rights reserved.

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