Staying Power: The Case For Two Resilient Tech Stocks

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Staying Power: The Case
For Two Resilient Tech Stocks

By JAMES B. STEWART
July 23, 2008; Page D1

Attention, bargain hunters: Two technology darlings are on sale at steep summer discounts, Apple and Google.

On Monday I dropped in to the flagship Apple store on Manhattan's Fifth Avenue to see the MacBook Air, the super-thin lightweight portable I've decided I can't live without. I stayed about two minutes; thanks to the launch of the new iPhone, the checkout line looked like passport control at New York's JFK during peak arrival times, and there were lines even to see the merchandise. The average age of the people in there appeared to be about 21.

Coincidentally, later that afternoon Apple reported a revenue gain of 38% for its fiscal third quarter from a year earlier. That was almost as good as Google, which last week said quarterly revenue grew 39%. How did the market respond to the seemingly good news from these technology bellwethers? With cruel punishment. Apple shares immediately dropped 11%; by this week Google was down 12% from before the earnings announcement Thursday.

The stock market moves on expectations, so many investors were obviously hoping for much more. Evidently, they expected Apple and Google earnings to surge despite the current recession or near-recession, the plunge in consumer confidence and the apparent slowdown in consumer spending. The companies have shown themselves to be strikingly resilient so far, but they can't perform miracles. Given that the vast majority of Google's revenue comes from advertising, and Apple's from consumers, both are dependent to some degree on the economic cycle, so it shouldn't come as any shock that they face a difficult environment. Yet it was comments to this effect and cautious outlooks for the next quarter that seemed to unnerve many investors.

I own both stocks, and have made the long-term case for owning them in earlier columns. Nothing about the recent earnings or the plunge in the stocks' value has caused me to change those positive views. If anything, my conviction has strengthened. Google continues to gain market share in its core search business. Its recent pact with Yahoo hasn't even gone into effect while it awaits antitrust clearance, which should significantly boost results for both Google and Yahoo (unless Yahoo, with Carl Icahn and his allies soon on the board, manages to sell itself to Microsoft -- but that's another column). Google mentioned that it's just beginning to capitalize on its acquisition of DoubleClick. And it concedes that it's still struggling to develop a strategy for YouTube, which doesn't mean it won't succeed. I believe all three initiatives have tremendous long-term potential, and then there's the potential for continued growth in its core search business, both globally and in the U.S. when conditions improve, as they surely will. I predict that as the value of targeted search advertising becomes apparent during the current downturn, Google will emerge stronger than ever.

As for Apple, sales of the new, cheaper iPhone 3G have gotten off to a rousing start, and weren't reflected in the most recent earnings. Strong growth in Macintosh computer sales is more than just a "halo" effect. Apple is creating a network of desktop, laptop and hand-held devices that provide a seamless computer and communications network for families and individuals. If the crowds at the Apple store are any indication, the Apple generation has arrived.

Both companies are investing in the future, which caused margins to shrink slightly. But investing in the future shows they believe in their own potential for growth.

These are all long-term trends, and many investors don't care about long term. So much the better for the rest of us. If you don't own either of these stocks, this strikes me as an ideal entry point. And if, like me, you already do, this is an excellent time to increase your holdings. Since the trends that impress me are long term, I don't expect any immediate rebound in either stock. So there's no rush. On the other hand, why wait? Now that unreasonable expectations have been wrung out of the stocks, I don't see much downside risk unless the economic outlook worsens.

I count Google and Apple among my core long-term holdings. At these prices, I can't resist adding to them.

James B. Stewart, a columnist for SmartMoney magazine and SmartMoney.com, writes weekly about his personal investing strategy. Unlike Dow Jones reporters, he may have positions in the stocks he writes about. For his past columns, see: www.smartmoney.com/commonsense.