Why Microsoft Corp. ascent is victory for hedge funds after they dumped Apple Inc

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Updated: November 27, 2018 10:30 PM

One group rooting for Microsoft Corp. to overtake Apple Inc. is hedge fund managers, who made Bill Gates’ software company their favorite pick last quarter while dumping the iPhone maker.

At 24 times forecast earnings, Microsoft shares traded at an 80 percent premium to Apple.

One group rooting for Microsoft Corp. to overtake Apple Inc. is hedge fund managers, who made Bill Gates’ software company their favorite pick last quarter while dumping the iPhone maker.

It almost happened Monday, when Microsoft briefly surpassed Apple as the world’s largest public company by market value only to slip back. While the iPhone maker maintained a slight lead Tuesday, Microsoft’s ascent marks a quiet resurgence by a legacy tech firm that first peaked in the dot-com bubble and is now up sevenfold since 2009.

Shares of the iPhone maker have dropped 23 percent since the end of September, almost triple the loss in the S&P 500. Microsoft has fared better, with shares down less than 7 percent. At 24 times forecast earnings, Microsoft shares traded at an 80 percent premium to Apple.

The outperformance is rare good news hedge fund managers who just suffered through their worst month since 2011. During the June-September period, they were net buyers of Microsoft, snapping up more than 4.2 million shares and making the stock the most widely owned among money managers, regulatory filings compiled by Bloomberg and Goldman Sachs showed.

By contrast, they sold more than 4 million Apple shares and only 27 funds counted the stock among their top 10 holdings, a third of the ownership that Microsoft garnered.

“Hedge funds tend to focus on revenue growth and care a little less what they’re paying for the earnings stream,” said Kim Forrest, a senior portfolio manager at Fort Pitt Capital Group. “All signs point to Apple flattening out with respect to selling more phones,” she said. “Sitting here today, they can only bank on what they see, and that’s probably the Azure product” that Microsoft sells, she said.

Both firms are categorized in equity indexes as technology but differ in major ways. Microsoft relies on corporate clients who pay regular fees for software updates such as its Office 365 program or its Azure services, which stores data and runs apps in the cloud. By contrast, Apple makes its money from consumers with gadgets such as the iPhone, iPad and MacBook.

Microsoft’s ascent reflects a growing quest for safety among investors who are increasingly doubtful about the pace of U.S. earnings growth in 2019, according to Peter Tuz, president of Chase Investment Counsel Corp. in Charlottesville, Virginia.

“A services-based business model with lots of recurring revenue tends to have fewer negative earnings surprises than a model that depends on selling phones and cars,” said Tuz, whose firm helps manage $350 million and owns both stocks. “Microsoft has really done an excellent job transitioning to a services-based business model, and people value predictable income stream higher.”

The S&P 500 is mired in its second 10 percent correction of the year as strategists at firms from Morgan Stanley to Citigroup Inc. warn that analyst estimates for next year’s profits are too high. Apple has been at the center of those concerns after the company decided to stop disclosing unit sales for its main gadgets, including the iPhone, while a slew of its suppliers slashed sales forecasts.

Microsoft rose 3.3 percent to close with a market capitalization of $822.9 billion Monday. Apple climbed 1.4 perce

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