For Canadian telecom stocks, bad news is priced in

Canadian telecom stocks haven't recovered much from their June swoon, when investors learned that giant Verizon Communications Inc. was planning to enter the wireless market by snapping up one of the smaller newcomers, perhaps Wind Mobile – even as some observers now cast doubts on the entry.

That makes the Canadian players look intriguing to income-oriented investors.

BCE Inc. is up just 2 per cent from its June low and remains 13 per cent below its May high. Rogers Communications Inc. is up 1 per cent from its June low and is off 22 per cent since April. And Telus Corp. has recovered 7 per cent from the bottom, but is down 15 per cent since May.

For sure, part of the initial selloff is related to a sudden disaffection for dividend-paying stocks, due to rising bond yields, and Canadian telecom stocks are the bedrock of many dividend-generating portfolios. But the threat of a new heavyweight is what pummelled share prices in late June, when Telus fell 8 per cent and Rogers fell 9 per cent in one day.

Since then, investors have remained wary of the sector, even though the immediate threat from Verizon appears to be subsiding. The Globe and Mail reported earlier this month that the U.S. company – about twice the size of a combined BCE, Rogers and Telus in terms of market capitalization – is delaying any commitment to expansion into Canada until an auction of spectrum licenses in January.

And on Thursday, Moody's Investors Service offered an upbeat assessment on incumbent Canadian telecom companies, noting that any newcomer would face "significant barriers to entry" and would not be able to get costs low enough to start a price war.

"Whatever the outcome of Verizon's interest, we believe any foreign competitor would have a difficult time gaining traction in the Canadian wireless market," said Bill Wolfe, senior vice-president at Moody's, in a release. "The three major incumbents...have built out some of the most sophisticated networks in the world, and would prove formidable competitors."

Although Canada's overall wireless penetration rate is a relatively low 80 per cent, the rate in cities is far higher, suggesting that there isn't a whole lot of room for growth, he added. As well, the incumbents can offer customers a package of telecom services that keeps their costs down and ensures some degree of customer loyalty.

"A battle for market share likely would be based on user experience, which would require the development of a top-quality network," Mr. Wolfe said. "And since this would be both a costly and time-consuming undertaking, we estimate it would take four to five years to develop a profitable company, giving existing players plenty of time to respond."

So why are investors still giving telecom stocks the brush-off? Dividend stocks remain unpopular, and telecom stocks aren't the only ones suffering. The S&P/TSX capped REIT index has fallen 18 per cent since the end of April. And the utilities sector has fallen 14 per cent over the same period.

As well, the incumbents appear to be responding to the Verizon threat already, offering packages on multiple lines and shared-data usage plans, at prices that are competitive with U.S. carriers.

In other words, rising bond yields and a Verizon arrival seem largely priced into Canadian telecom stocks. That doesn't necessarily mean that they are primed for a dramatic rebound, but it does suggest that the worst news is behind them.