TELECOM: Greater Than Its Parts

TELECOM: Greater Than Its Parts

The telecommunications sector as a whole surged during the third quarter, but its component industries fared far differently.

The sector's gains were built almost entirely on the performance of full-service telephone companies offering land-line, wireless and Internet services. These companies, which offer services people use in good times and bad, attracted investors seeking relative safety as well as a reliable stream of dividends. Wireless service companies tracked by the Standard & Poor's 500-stock index, on the other hand, dropped significantly.

Analysts weren't surprised that the stocks of large telecom companies continued their yearlong performance of outpacing the market.

"No one turns off their phone, even in a recession," said Blair Levin, a telecommunications analyst at Stifel Nicolaus, a brokerage and investment banking firm.

The telecom sector of the S&P 500 grew 9.6 percent in the three months ended Sept. 30, compared with 5.2 percent for the entire index in that period. For the year, the sector is up more than 22 percent.

The price of shares in the big companies such as AT&T Inc. and Verizon Communications, which account for 82 percent of S&P's telecom category, increased 14.4 percent. For the year, this group is up nearly 40 percent.

The wireless services group -- which basically sells cellphone services -- declined by 8.7 percent. Analysts said that's largely because Wall Street isn't happy with how slowly Sprint Nextel Corp., which dominates the wireless category, is integrating operations since the merger of Sprint Corp. and Nextel Communications Inc. more than a year ago.

Sprint Nextel still offers the brand of each of the merged companies, Sprint Mobile and Cingular, which confuses customers, analysts said. That and a perception of deteriorating voice quality in the company's services are causing Sprint customers to switch carriers at the highest rate in the industry, they say.

A low point came in late August, when the company trimmed its forecasts for annual profit and revenue and reported that its chief operating officer, Len Lauer, who was overseeing the merger with Nextel, was leaving. Those announcements led Merrill Lynch & Co. to cut its rating on Sprint stock from "buy" to "neutral."

Sprint's stock, which in July was $19 to $20, fell to a quarterly low of $16.08 in late August and recovered to only slightly above $17 a share by the end of September.

Analysts said the stocks of the larger, integrated companies fared far better because investors perceive that their mergers are working out better, faster. AT&T and SBC Communications Inc. combined in 2005, and now AT&T is in the process of buying BellSouth Corp. for $67 billion. Verizon completed its acquisition of Ashburn-based MCI Inc. in January.

What makes Verizon and AT&T especially attractive is that they are "big dividend payers," Levin said. Interest rates on Treasury securities declined during the period, which increased demand for telecom stocks because investors want reliable revenue, said Sam Stovall, chief investment strategist at S&P's equity research division.

AT&T shares, which hit a quarterly low of $26.56 on July 13, climbed steadily in August and nearly all of September, ending the quarter at $32.56, a 22.3 percent gain that was more than four times the gain of the entire S&P 500 for the period. Verizon's shares took a similar path, starting the quarter at $33.55 and ending it at $37.13, a gain of nearly 11 percent.

"Telecom has experienced a year-long market leadership as a result of the merger and acquisition activity and strong cash flow from operations and a high dividend yield," Stovall said.