Dow's Embrace of Apple (Nasdaq: AAPL) Reveals New Paths to Profits

The announcement last week that Apple Inc. (Nasdaq: AAPL) would replace AT&T Inc. (NYSE: T) in the venerable Dow Jones Industrial Average's 30 top companies reflects an important trend that investors can play to their advantage. Today, I'll tell you how.

Previously, the biggest shake-up of the Dow came in September 2013 when Goldman Sachs, Nike, and Visa knocked out Alcoa, Bank of America, and Hewlett-Packard.

If you see a pattern, you are correct. The Dow is moving in the direction of tracking the new, consumer- and intellectual property-driven economy. Replacing AT&T with Apple is a logical step in that direction.

It's all a piece in a critical trend I see coming that will change the way we think about investing.

For those who want to look to the future (Apple) and slough off the past (AT&T), this is a key time to act. Here's how.

Apple Defines the Digital Future

The Dow was established by The Wall Street Journal editor and Dow Jones & Company cofounder Charles Dow. It was first calculated on May 26, 1896, and has always included only 30 stocks compared to the much broader S&P 500 index, which of course includes 500 stocks.

Given the dynamics of the market over the last 100-plus years, changes to the Dow were inevitable. In fact, this is not the first time AT&T has been bounced out of the Dow. It first entered in 1916 as American Telephone & Telegraph but was kicked out in 2004, only to rejoin a year later after merging with SBC Communications.

It's inevitable that the Dow will continue to change. But frankly, it is surprising that it took as long as it did to include the world's most valuable company - and its most iconic consumer brand and symbol of technology - in the world's most famous stock index.

With a market cap of well over $700 billion (it peaked most recently at about $750 billion), Apple exercises forceful influence on the direction of the markets. The company's value has skyrocketed from $26 billion in 2000 as its cultural significance has also grown in ways that few other companies can rival.

Few people remember today that the company was on the verge of extinction in the 1990s and had to ask Microsoft Corp. (Nasdaq: MSFT) for a financial life-line in order to survive. Despite the rivalry between Bill Gates and Steve Jobs, Microsoft helped Apple survive and the rest, as they say, is history - a history for which we should all be thankful.

Ironically, the company that Apple is replacing in the Dow 30 has also played an instrumental role in Apple's success. Approximately 70% of Apple's business comes from its iconic iPhone, and one of the companies that helped it sell so many iPhones and revolutionize the smartphone business was AT&T.

Yet AT&T has struggled to compete with smaller rivals such as T-Mobile Us Inc. (NYSE: PCS) and Sprint Corp. (NYSE: S) in a highly competitive pricing environment and, like many companies in the space where technology and media intersects, has looked to other products such as tablets for growth.

While AT&T has helped enable Apple achieve its dominance, it has been left in the dust financially by the company cofounded by Steve Jobs. And while Apple's enormous financial power and influence may currently be centered on the iPhone, it springs from the fact that the company has disrupted not only the telecommunications industry but the music industry, the book industry, and is attempting to do the same to the television and watch industries.

The iPhone may be a piece of hardware, but in a world where the lines between hardware and software are increasingly blurred, Apple has mastered the art of disruption to reshape the world in its image.

How to Profit from This Trend

Perhaps AT&T could have done the same had it been led by a visionary leader like Steve Jobs. But such a leader comes along very rarely. AT&T controlled the wirelines that carry data and was in an ideal position to dominate the wireless business as well. It remains a formidable player in those businesses. But unlike Apple, which started as a computer company but burst those bounds to become so much more, AT&T was never able to reinvent itself and move beyond its core competencies.

Here's the key takeaway:

AT&T was never able to understand that the essence of the digital economy is the breaking down of the boundaries between traditional industries.

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A telephone company does not have to be just a telephone company. A computer company does not have to be just a computer company. Any company can compete in other businesses because digital technology empowers it to do so.

Steve Jobs understood that and led Apple to revolutionize the music business with the iPod and iTunes. Then he turned his attention to the telephone business and created the iPhone, which also happens to be a computer, a camera, and a hundred other things.

AT&T was left with its mouth hanging wide open as a follower but not a leader in Jobs' revolution.

One of the miracles of the new breed of companies that have been born since the Internet Age like Apple, Inc. (Nasdaq: AMZN), Netflix Inc. (Nasdaq: NFLX), Alibaba Group Holding Ltd. (NYSE: BABA), Softbank Corp. (OTCMKTS: SFTBY), and even Tesla Motors Inc. (Nasdaq: TSLA) is that they won't allow themselves to be confined to a single industry. And that is why companies such as these will end up in the Dow in the years to come, and they are where we should put our investment dollars to work.

They have learned that the digitalization of the economy allows them to be more than a computer company or an e-commerce company or a streaming video company or an automobile company - they can be multiple companies combined. That is the miracle of digital technology in the hands of a visionary entrepreneur. Companies that don't understand the new DNA of the digital world will get left behind.

That is what the replacement of AT&T by Apple in the Dow represents.

"In with the new!"

About the Author

Prominent money manager. Has built  top-ranked credit and hedge funds, managed billions for institutional and high-net-worth clients. 29-year career.

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