ETF Watch: Does Value Exist in Telecom ETFs? (IYZ, VOX, IXP, TTH)

The headline grabber in the telecommunications sector is the pending $39 billion acquisition of Deutsche Telekom’s T-Mobile by AT&T. The deal is running into opposition in Congress from both Republicans and Democrats who complain that it will reduce competition and innovation in the communications industry.

AT&T reported second quarter earnings this morning. The company pretty much hit expectations, with EPS of $0.60 and revenue of $31.5 billion compared with analysts’ estimates for EPS of $0.60 and revenue of $31.31 billion. The company claims 98.6 million wireless subscribers, up by 1.1 million sequentially. Wireline connections continue to slide, falling from 43.1 million at the end of the first quarter and 44.3 million in the year-ago quarter to 42.5 million. Interestingly nearly 50% of AT&T’s wireline revenue comes from IP data.

Today’s earnings from AT&T set the table for tomorrow’s earnings from Verizon Communications. Verizon is expected to post EPS of $0.55 on revenue of $27.43 billion.

The two firms dominate the consumer telecom space and they dominate the holdings in the largest telecom ETFs as well. We’ve taken a look at four ETFs: iShares Dow Jones US Telecom (NYSE: IYZ); Vanguard Telecom Services ETF (NYSE: VOX); iShares S&P Global Telecommunications (NYSE: IXP); and Telecom HOLDRS (NYSE: TTH).

The iShares Dow Jones US Telecom (NYSE: IYZ) holds total assets of $773 million of which nearly 15% is AT&T stock and nearly 12% is Verizon stock. The yield on this fund is 2.47%, about half the 5.2% trailing yield on Verizon stock and less than half of AT&T’s 5.7% dividend yield. The fund’s expense ratio is 0.48%, and it gets a 3-star rating from Morningstar.

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The Vanguard Telecom Services ETF (NYSE: VOX) claims total assets of $422 million of which AT&T comprises slightly more than 23% and Verizon slightly less than 23%. The yield on this fund is 2.67% and the expense ratio is a 0.24%. The fund gets a 4-star rating from Morningstar.

The iShares S&P Global Telecommunications (NYSE: IXP) holds total assets of $406 million of which about 16% is AT&T stock and about 10% is Verizon stock. The fund includes exposure to foreign as well as domestic stocks, something that IYZ and VOX do not. The fund’s yield is 4.5% and it’s expense ratio is 0.48%. The fund gets a 4-star rating from Morningstar.

The Telecom HOLDRS (NYSE: TTH) holds assets of about $135 million of which AT&T comprises 52% of assets and Verizon about 27% of assets. Due to the structure of the HOLDRS funds only 11 stocks are included in its holdings. Essentially, this fund is the equivalent of holding AT&T and Verizon stocks. The fund charges $0.08/share in a custody fee which is waived if the stocks’ performance doesn’t cover them.

The consolidation of the telecom industry over the past decade or so has led to the fairly top-heavy holdings in all these funds, with TTH the stand-out here. And if AT&T succeeds in acquiring T-Mobile, the concentration at the top will get even more pronounced. As value plays, there are certainly better options.

With the possible exception of IXP, these funds, all of which have at least 95% of holdings in communications stocks, are likely to become virtually identical to holding AT&T and Verizon stock. In that case, there is really no reason for them to be around.

Paul Ausick