US telephone stocks draw in investors attracted by abnormally high dividends
HUNDREDS of thousands of Irish people lost money on Eircom shares in 1999, but telephone stocks in the US are currently enjoying a renaissance as investors look to phone companies for dividends.
That strong demand for the generous yields paid by many phone companies has triggered a rally, with Verizon Communications and PCCW leading a 21pc gain in the MSCI's gauge of 52 telecommunications companies since the end of the second quarter.
The snag is that the rally means US phone shares, relative to forecast profits, are the most expensive industry in the Standard & Poor's 500 Index.
Investors are sacrificing the prospect of faster earnings growth for the current income of telecommunications stocks. Artemis Investment Management, BlackRock and Fifth Third Asset Management are buying phone shares as dividends of companies from Royal KPN NV to AT&T yield more than their bonds, amid signs that the US economy is slowing.
"I know they don't have earnings growth. I'm not buying them for growth but for their very high, abnormal dividend," said Jacob De Tusch-Lec, a London-based fund manager at Artemis, which oversees $16bn.
"If I can see KPN paying 3pc on its bond and giving me a dividend yield of 6pc, why would I buy the bond?"
He's not the only one. Warren Buffett, the billionaire investor, said last week at a 'Fortune' magazine conference that he "can't imagine anyone" owning bonds after the drop in yields, when they could buy equities at cheaper valuations.
More than 65 companies in the S&P 500 now pay dividend yields above the average interest rate on corporate debt. That is the highest number in at least 15 years.
"In this market environment, people are a little bit more risk-averse," said Dan Hanson, a money manager at New York-based BlackRock, which oversees $3.2 trillion.
"The value of dividends has been highlighted by the environment -- and first and foremost is just the low yields on competing assets."
Telephone companies account for five of the 10 largest dividends in the benchmark gauge for American equities and yield 5.44pc as a group, based on data compiled by Bloomberg.
As a group, utilities offer the second-highest payouts in the S&P 500, at 4.25pc.
The 8.73pc yield for Frontier Communications, the Connecticut-based phone company serving rural US markets, is the largest in the index.
Verizon, the biggest US mobile carrier, has the ninth-highest, at 5.91pc.
MSCI's gauge of global telephone stocks and the S&P 500 Telecommunications Services Index both posted their biggest rallies since 2003 last quarter, advancing 19pc each.
The surge has left US phone stocks trading at an average price of 14.8 times estimated 2011 profits, the highest valuation of any industry group.
Investors in phone stocks "may be sacrificing two percentage points of growth potential," said Bruce McCain, an investment strategist at KeyCorp.
He added: "It's just an emotional reaction that they feel more comfortable with the higher yield."
Profits at telecommunications companies have declined as consumers eliminate home phone lines in favour of mobile devices and voice service from cable providers.
The industry also faces less demand from businesses and slowing growth from wireless phones, given that there are enough mobile handsets for almost every person in the US, according to the CTIA, a Washington-based trade group.
"That's why dividend yields for those kinds of companies are particularly important: they're not high growers," said Keith Wirtz, who oversees $1bn as chief investment officer at Fifth Third Asset Management.
"With matured businesses that have stable and steady growth -- although perhaps not as strong growth -- their dividend policy is becoming a more important feature for investors to look at."
While money has been pouring out of equity funds since May, investors are piling into exchange-traded funds that focus on dividends.
US dividend funds saw $1.54bn in inflows last month and $5.27bn for the first three quarters of the year.
(Additional reporting: Bloomberg)