AT&T (NYSE: T) surged from $32 last November to $43 in July, fueled by robust demand for dividend stocks and its cash flow-boosting purchase of DirecTV. Since hitting that peak, AT&T stock has pulled back to around $37 on various concerns about its future.
Image source: AT&T.
But as a long-term
1. Higher interest rates
Many high-yield dividend stocks, including AT&T, outperformed the S&P 500 over the past 12 months as low interest rates sent investors scrambling for higher yield investments. But as interest rates inevitably rise again, income stocks like AT&T will become less attractive than the guaranteed returns of bonds.
While that may be true for many income stocks with inflated P/E ratios, AT&T currently trades at 16 times earnings, compared to the industry average of 25 for domestic telcos. Furthermore, the benchmark 10-year Treasury yield of 2.3% remains much lower than AT&T's forward yield of 5.3%.
2. The Time Warner deal
When AT&T announced that it would buy Time Warner (NYSE: TWX) for
However, buying Time Warner helps AT&T counter the expansion of younger tech companies into its backyard. For example, Netflix's growth convinced many consumers to dump their bundled pay TV subscriptions for cheaper broadband-only plans. To address that demand, Alphabet's Google then launched its Fiber wireline service, Google Fi wireless service, and Google Station Wi-Fi service.
Those streaming and broadband services all threaten AT&T's position as a leading ISP and pay TV provider. However, buying Time Warner gives AT&T the power to bundle the latter's media assets (like HBO) with DirecTV -- which is already bundled with its unlimited wireless data plans. It could also offer "data free" streaming of those first-party services for its wireline and wireless customers. Other companies, like Netflix, still have to pay AT&T for data-free streaming.
3. Higher debt reducing its dividends
Last February, credit rating agency Moody's
Moody's warned that AT&T's rising debt levels following the deal -- which would boost its adjusted gross leverage from about 2.8x today to 3.5x -- could eventually force AT&T to reduce its dividends. However, AT&T is very unlikely to cut that dividend -- which it's hiked annually for over 30 years to become an elite "dividend aristocrat" -- unless its free cash flow completely dries up. That scenario seems unlikely if we look at AT&T and Time Warner's FCF growth over the past five years.
4. The saturation of the wireless market
AT&T's wireless subscriber base grew by 2.3 million. Much of that growth was fueled by its Cricket prepaid wireless phones and its growing Mexican business. However, AT&T also lost 268,000 mainstream U.S. wireless phone customers due to tougher competition and the saturation of the smartphone market.
But including "other" wireless devices, AT&T mainstream's U.S. wireless subscriber base actually grew by 212,000. Those "other" devices include connected vehicles, which require better stand-alone connections for their infotainment and navigation systems, and autonomous drones, which can fly across AT&T's 4G networks.
Back in January, AT&T announced that it would offer stand-alone conenctions to 10 million Ford vehicles in North America by 2020. The following month, it tested out the world's first
The key takeaway
I'm not saying that AT&T has a flawless business strategy, but I believe that the specific fears about higher interest rates, Time Warner, its debt levels, and wireless "losses" aren't compelling reasons to sell the stock.
Instead, investors should focus on the fact that AT&T is trading at a steep discount to the industry while offering a hefty dividend yield which is more than double the S&P 500's average yield of 2.1%. Therefore, I personally plan to tune out the noise and stick with my original plan of holding AT&T for the long term.
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Suzanne Frey, an executive at Alphabet, is a member of The Motley Fool's board of directors.