Yesterday’s most active stocks included: Lucent ( NYSE:LU ), Pfizer ( NYSE: PFE), General Electric ( NYSE:GE ), SPDRs ( AMEX:SPY ) and iShares Russell 2000 Index ( AMEX:EWJ ).
The iShares Dow Jones U.S. Telecommunications ETF lit up like a switchboard during recent weeks. The fund rose from dead last on the ETF Momentum Rankings as of January 17 to number 15 on February 7, thanks to a roughly 5% year-to-date return.
That rally came on the heels of a bleak 2005, when this fund struggled to a 2.4% loss—more than seven percentage points behind the S&P 500. Indeed, telecommunications was one of the broad market’s worst-performing sectors last year, as investors worried that new technologies such as Internet telephony would only intensify the industry’s already-brutal price competition.
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This fund holds an intense concentration in the industry’s giants, so it tends to struggle mightily when the big, old-line telephone companies take it on the chin. IYZ holds only 26 stocks, and its top three, Verizon, AT&T and Sprint Nextel, accounted for more than 50% of assets as of February 8. What’s more, the fund recently held more than 80% of its assets in its top 10 stocks.
As a result, the performance of only a handful of stocks typically determines IYZ’s fortunes. Most of those are in the difficult fixed-line telephony business: The fund recently held 65% of assets in shares of fixed-line firms, with 33% in mobile carriers’ stocks. Such concentration means shareholders here are exposed to far more company risk than they would be in a broad-based telecom fund—but it also means the ETF can generate strong returns when the big phone company stocks rally, as they have recently.
Verizon recently accounted for about one fifth of IYZ’s assets, and the stock climbed more than 7% in January and early February. Morningstar analyst Michael Hodel noted in late January that the company’s wireless unit recently announced “another exceptional quarter”, adding more than two million net new customers during the fourth quarter of 2005 for a total increase of 7.5 million on the year—representing customer growth of 17%. Hodel points out that Verizon Wireless’s industry-leading operating margins exceeded 25% for the first time during the recently ended quarter.
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The company’s fixed-line business is not faring as well—but even there the news has improved. Customer growth for high-speed Internet services accelerated during the fourth quarter, while test-marketing of television services went better than expected. Meanwhile, investors seem to be warming to the company’s expensive plans to replace its existing copper networks with fiber optics, a move that would allow the firm to offer far more cutting edge data services. They also appear to be mellowing about Verizon’s purchase of MCI (many analysts believe that a bidding war with Qwest caused the firm to overpay for the long-distance company).
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Number-two holding AT&T (recently 19% of assets) has fared even better: The stock jumped 10% in a little over two weeks through February 9, as investors digested stronger growth guidance from the company’s management. The new AT&T—the product of SBC’s purchase of the old AT&T—stands to benefit from its ownership of Cingular, the country’s largest wireless carrier. Morningstar analyst Hodel also points out that the old AT&T was the only major U.S. long-distance carrier to invest consistently in its network during the industry’s struggles earlier this decade, and suggests that those upgrades position the company well to attract and retain business customers.
The recent rally in those top holdings, which represent about 40% of IYZ’s total assets, goes a long way to explaining this ETF’s strong 2006 returns. Investors here should be prepared for the pendulum to swing the other way: While telephone stocks sport a number of attractive attributes, including strong cash flow and healthy dividends (IYZ recently threw off a 3.43% yield), the large fixed-line carriers that dominate this portfolio also face an uncertain future that is threatened by intense competition and technological change.
Investors also should check their existing exposure to this fund’s top holdings. The goliaths that make up this fund’s biggest positions—Verizon, AT&T, Sprint Nextel, BellSouth and Alltel, which as of February 8 represented more than 60% of assets—are present in many large-cap stock funds. An investor putting money here could dramatically increase exposure to problems at any of those firms.
To receive a free issue of the ETF Momentum Tracker simply click http://www.fidelity-adviser.com/etfoffer/freeissue.jsp. There is no obligation and you can see the results for yourself!
Performance:
| |
IYZ(NAV)
|
vs Category*
|
| YTD** |
3.72%
|
+0.56
|
| 2005 |
-2.42%
|
-0.16
|
| 2004 |
18.13%
|
+3.70
|
| 2003 |
12.85%
|
-6.30
|
| 2002 |
-38.13%
|
-4.99
|
