Ringing up returns

As we have discussed in the past, our investment philosophy focuses on opportunities that offer long-term value that have fallen out of favor. And the telecommunications sector is just such an example. Having been a market darling of the technology boom, the sector quickly fell from grace and remained neglected in the bubble's aftermath.

"...we were very pleased to see the fund quickly begin to outperform the wider market."

Serving to dampen investors' enthusiasm for the sector further was the intense competition and significant capital expenditure requirements that characterized the industry.

However, we believe market negativity towards the sector was overdone and that many telecom companies' market values simply did not reflect their strong growth prospects. As a result, the Fat Prophets Portfolio features a number of these leading companies.

For investors looking for diversified exposure to the sector as a whole, our preferred vehicle is the iShares SP Global Telecommunications Sector Index Fund (IXP). Barclays Global Investors manage the fund, which tracks the S&P Global Telecoms Index.

A contrarian investment philosophy such as ours can often be a lonely experience, as it involves waiting for the market to recognize the stock or sector's value. Given that, we were very pleased to see the fund quickly gain pace against the wider market following our initial recommendation last year.

This is shown by the chart below, which displays the fund's performance relative to the S&P 500.

From a charting perspective, despite a period of increased volatility throughout August, the most dominant feature remains the longer-term upward trend. This week, prices reached a new high of $83.13, representing a 44 percent gain since our initial buy recommendation of $57.80 in October last year.

Turning to the fund itself, the table below shows the top ten holdings as at 30 September 2007. Four of these stocks are held in the Fat Prophets portfolio and have been reviewed in recent months.

Source: iShares

*For further details on these stocks, please refer to past Fat Prophets reports.

Not currently in our portfolio but one certainly worth discussing is the fund's largest holding, AT&T, which we believe provides an excellent example of the changing face of today's telecoms industry. In the past, telecoms companies were simply concerned with the provision of traditional fixed line telephone calls.

Today, however, fixed line revenues are diminishing as cell phones gain greater prominence. Furthermore, consumers are demanding far more than just phone services. Today's customers want mobile broadband, television services and a range of other digital entertainment.

As a result, in order to maintain a competitive position, companies must evolve their products and services accordingly. In respect of which, AT&T recently partnered with Apple, to serve as the network provider for their much sought after iPhone.

In the three months to 30 September 2007, the deal served to boost revenue in the wireless division by 14 percent. Furthermore, the company now has 65.7 million wireless users and expectations are for this to expand further.

Highlighting the evolution of the modern telecoms company, AT&T also offers a television service (U-verse) which utilizes Microsoft software to send video over phone lines. Although still in its infancy, AT&T currently has 126,000 television customers. Moreover, expectations are for this to expand considerably as the company spends $6.5 billion over the next five years developing the product.

AT&T certainly embodies a forerunner in an extremely dynamic industry However, from the perspective of a US investor, we believe continued US dollar weakness will benefit companies with foreign currency denominated revenues.

As such, a further attraction of the fund is its international diversification, which we believe will underpin robust returns in the months and years ahead. The table below shows the fund's top ten geographic exposures as at 30 September 2007.

Certainly, the fund has already benefited from exposure to the recent performance of such stocks as China Mobile, Telefonica and American Movil.

Returning to the charts, given the strong gains over the past two months, we cannot rule out a pause for consolidation in the near term. However, with upward momentum remaining firm, we believe that any such pause will prove temporary. As marked on the daily chart, initial support lies at $78.32, ahead of additional support at $74.08.

In the longer-term, given the resilience of the 5-year upward trend, we believe the outlook for IXP remains strong. In the coming months, we expect to see prices extending to new highs well above this week's all-time high of $83.13.

Accordingly, the iShares SP Global Telecommunications Sector Index Fund will remain in the Fat Prophets Portfolio.