Telecom ETFs: Coming In Loud and Clear

Will McClatchy,
October 24, 2010

Telecom ETFs are no longer beaten down. Trampled in late 2007 and 2008, they recovered ground in 2009 and surged in 2010.Low-cost ETFs following major US indexes include Vanguard Telecommunication Services ETF (AMEX:VOX - News) at .25% annual expense ratio and iShares Dow Jones US Telecommunications Sector ETF (NYSEArca:IYZ - News) at .48% annual fees. In IYZ and VOX the top 10 firms make up over 2/3rds of assets. In VOX about 45% of assets are devoted to just two stocks, AT&T and Verizon. This is hardly broad diversification, but in the typical portfolio VOX will itself have a small allocation so single company risk is a modest concern. They did quite well in 2010: These ETFs remain an odd hybrid of old line utility and fast paced wireless entrant, with a dash of multinational holding companies. Some index providers like S&P fold US telecom firms into the technology sector. Telecom is modest in size, typically about 2-4% of the total market. Difficulties of how to build a telecom index include what to do with Apple, whose iPhone is the most exciting and profitable innovation in the cell phone industry. Apple remains primarily a computer company and is counted as such, not as telecom.Trying to beat the major indexes by weighting with fundamental financial ratios, Invesco PowerShares Dynamic Telecommunications & Wireless Portfolio ETF (AMEX:PTE - News) costs a tad more at .60% annually. Also there is WisdomTree International Communications (NYSEArca:DGG - News) at .58%, which focuses on firms which pay regular dividends. This sector is dividend-rich so it aligns well with the DGG strategy.Valuations have risen from a Price/Earnings ratio of about 13 in October 2009 to about 15 in October 2010. That is still a reasonable valuations for a sector which should see modest revenue growth.Telecom managers are well aware that they must to shift from analog to digital services. Networking over twisted pair is a great way for legacy telephone companies to compensate for sagging analog voice service. And wireless companies are adding data services to 3G cell phones. Telecom companies have a billing relationship with millions of consumers, recognized brands and control of valuable infrastructure. These are formidable advantages.Probably the most exciting play in telecom is international. Multinationals are scrambling to snap up local players in all sorts of markets. ETFs gaining such exposure include iShares S&P Global Telecommunications Sector ETF (NYSEArca:IXP - News) and SPDR S&P International Telecommunications Sector ETF (AMEX:IST - News). They are moderately priced at .48% and .50% annual fees. Their returns vary considerably from their US ETF counterparts, reflecting the high degree of regulation abroad and diverging fortunes of different economies. Investors hoping to get telecom exposure in emerging markets will be disappointed. Most allocation of assets is still towards developed economies.Finally, there are two leveraged ETFs: ProShares Ultra Telecommunications ETF (AMEX:LTL - News) gives double daily long exposure and ProShares UltraShort Telecommunications ETF (NYSEArca:TLL - News) gives double daily short exposure. The daily return exposure adds a bit of leverage over standard long or short margin plays. The .95% annual fees are actually a bargain. ETFZone has found leveraged ETFs to provide more leverage per unit of cost than borrowing on margin from brokers when the various costs are compared (management fees plus rolling futures contracts vs. transaction costs and margin interest). Both ETFs are strictly for experienced traders with short term plays.Co-founder of, author of two books on investing, and founder of, Will has been writing on indexing issues for 8 years. He holds an MBA from the University of Texas at Austin.