Telecoms awakening from long depression

While stocks have regained allure, their volatile history serves as reminder they are unpredictable

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Telecommunications investing is coming back.

Resuscitated throughout the world by dramatic acquisitions and rapidly expanding technologies, it has begun to shake off the depression that had overtaken it after the technology bust.

Telecom funds are up a solid 11 percent this year and 29 percent the past 12 months, according to Lipper Inc., outpacing the broader market. Yet this complex field that combines advanced technology and traditional telecommunications utilities remains as unpredictable as it was in the last go-round.

Take the dramatic change that has shaken up the industry of late:

SBC Communications bought AT&T, changed its name to AT&T and then agreed to acquire BellSouth; Sprint merged with Nextel; Verizon Communications bought MCI; France's Alcatel agreed to buy Lucent Technologies; Telefonica of Spain bought British wireless provider O2; and eBay acquired Internet phone service Skype.

Smaller deals have frequently popped up, such as Level 3 Communications snapping up various underused telecom networks. Meanwhile, China Mobile Communications is aiming to bid for telecoms around the globe.

"Twenty years ago, government was trying to put more regulation on the telecom industry to try to tear down large companies, but now everything's in the opposite direction," said Matthew Wu, portfolio manager of Rydex Telecommunications Fund "A," up 9 percent this year and 22 percent the past 12 months. "Diversified telecom companies have high fixed costs, so expect mergers and acquisitions to continue as they seek improved economies of scale."

Telecom's volatile history shouldn't be ignored. The fact that stock prices remain beaten down despite some recent encouraging signs may attract bargain-hunters but should also sound a warning to realists. Technological advances, fierce competition, trends in the economy and regulatory constraints are a recipe for an unpredictable brew.

The Nasdaq telecommunications index remains more than 80 percent below its peak on March 10, 2000, and shares are subject to sudden sell-offs on bad news. Meanwhile, telecom funds are still in recovery mode, as indicated by their negative 2.5 percent annualized return over the past five years. Yet a powerful new driver is the fact that so many countries demand state-of-the-art communications.

"The resurgence in telecommunications is due to an international burst of interest in connecting people wirelessly," said Albert Lin, co-head director of research for American Technology Research Inc. in San Francisco. "Many countries have now put into place in their economies the reliable electricity and other infrastructure allowing them to catch up quickly to leading nations by buying the latest, greatest gear."

The key to handicapping which companies will be winners, losers, acquirers, acquired or failures is to follow the technology and discard usual company labels, experts said.

"Investors can no longer just look at the past performance of telecoms and how they've managed their businesses, but need to look deeper at their technologies and core values," said David Weissman, senior analyst with Zacks Equity Research in Chicago. "For example, look at companies involved in the next generation of telecom and also realize that content is becoming more important."

Because of telecom's well-documented risks, it may make sense for investors to leave the choices up to portfolio managers.

Strong telecom fund performers have recently been ProFunds Ultra Telecommunications Services, up 13 percent in 2006 and 16 percent the past 12 months; Fidelity Select Telecommunications, up 9 percent and 24 percent; and T. Rowe Price Media and Telecommunications, up 12 percent and 37 percent.

For those interested in individual stocks, owning shares in several successful giants would be a sensible move right now, experts say.

Sprint Nextel, the No. 3 wireless provider, has done a decent job of retaining customers after its merger, and is a Weissman recommendation. It is masterful at marketing and promotion.

Verizon Communications is a Lin choice because it is such a large operator and boasts the most loyal and financially attractive wireless customer base. For its local phone business, which still provides a lot of cash, it has an aggressive program of replacing old copper lines with fiber optics.

Nokia, which has regained its momentum by offering new cell phones at both ends of the price spectrum, is likely to remain No. 1 in handsets for some time, Lin said. He admires its track record of being able to upgrade its customers with new features in every world market while containing its costs. The fact that 2 billion people now use cell phones enhances its growth potential.

In addition to those three, other familiar names top the portfolio of Rydex Telecommunications Fund. They include Vodafone Group, Cisco Systems, AT&T, BellSouth, Motorola and Ericsson.

For the adventuresome, the international scene offers opportunities. Weissman likes shares of Vimpel-Communications, which provides wireless services in Russia and Kazakhstan, and Mobile TeleSystems, offering cellular service in Russia, Belarus, Ukraine, Uzbekistan and Turkmenistan. Both are sold here as American depositary receipts.

Many companies benefitting from telecom's resurgence don't fit into its traditional categories. Technologies used primarily for computers in the past are expanding worldwide into cell phones, iPods and MP3 players, providing some firms with a windfall.

Lin recommends the stocks of graphics chip companies Nvidia and ATI Technologies, as well as flash memory specialists SanDisk and Micron Technology. Freescale Semiconductor, which was spun off from Motorola, is well-positioned as a manufacturer of the chips that make wireless communication possible, he added.

Andrew Leckey writes for Tribune Media Services.

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