4 Reasons Why AT&T Stock Can Stay In Rally Mode

Earlier this year, I gave four big reasons why investors should buy AT&T (NYSE:T) stock for 2019 and 2020. Those four reasons were very simple. The wireless competition headwind was moderating, the 5G boom was coming, HBO Max would spark a rebound in the video business and the valuation on AT&T stock was simply too cheap to ignore.

AT&T Stock: 4 Reasons Why AT&T Can Stay In Rally Mode

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Fast forward to present day. We are now less than two months from the end of 2019, and AT&T stock is up an impressive 40% year-to-date. Even if shares went sideways over the next two months, 2019 would mark the best annual performance for the stock since 2006.

The big question now — can AT&T stock stay in rally mode?

I think so.

Going back to the four reasons to be bullish on T stock for 2019 and 2020, all four of those reasons remain relevant today. To be sure, one of them (a cheap valuation) is becoming increasingly less relevant. At some point, the valuation on T stock will fully reflect the reality that the fundamentals here are improving.

But, that point hasn’t come yet. Instead, it appears that there’s still another ~10% upside left before the valuation on the stock maxes out.

Given this, AT&T stock should stay in rally mode for now.

Wireless Pricing Headwinds Are Moderating

One of AT&T’s biggest headwinds over the past several years — severe wireless pricing headwinds thanks to promotional activity from competitors — is showing signs of significant moderation.

Specifically, the industry is getting smaller, as T-Mobile (NASDAQ:TMUS) and Sprint (NYSE:S) are officially merging into one company. These two low-priced mobile carriers were at the forefront of the promotional activity in this industry. Thus, now that they are one company, the industry has eliminated 50% of the companies that were leading the price cutting. Going forward, then, promotional activity across the whole industry should be less severe, and pricing trends should broadly improve.

At the same time, as opposed to playing defense, AT&T is now playing offense on the price-cutting front. They recently announced a wave of price cuts to their unlimited data offerings. In so doing, AT&T is recognizing that price cutting isn’t over, so they are doing the price cutting on their own terms. Doing so on your own terms should help mitigate the margin impact of the cuts.

Big picture, across most fronts, it appears AT&T’s big pricing headwinds which have plagued the wireless business over the past several years, are moderating in an important way.

The 5G Boom Is Still Coming

Calendar 2019 was the year of niche 5G testing, and 2020 will be the year when 5G goes from niche to mainstream. This transition will ultimately provide a big lift to AT&T’s wireless business, and AT&T stock.

The logic is pretty simple. By itself, 5G is going to be huge. Not only will it make every internet-connected device faster, but it will also enable a whole new generation of internet-connected devices (think smart appliances, smart apparel, etc.). As such, 5G will provide a lift to the whole internet service provider (ISP) industry.

But, it will provide an especially big tailwind for large ISPs. Why? Because large ISPs, like AT&T and Verizon (NYSE:VZ), have the most resources to allocate toward 5G deployment, and so they reasonably project as the leaders of the 5G revolution. Thus, when 5G goes mainstream next year, AT&T and Verizon will likely have very good 5G offerings, while everyone else will have sub-par offerings.

This “de-commoditization” of the wireless coverage industry will force customers out of cheaper plans at T-Mobile, Sprint and others, and into more expensive (but better) plans at Verizon and AT&T. This will lead to healthy customer growth for AT&T, at favorable price points and will re-ignite margin-additive growth in the wireless business.

HBO Max Will Provide A Much-Needed Video Boost

On the video side of things, the fundamentals of that part of AT&T’s business will improve significantly over the next few years, too, thanks to the deployment of AT&T’s very own content-packed streaming service, HBO Max.

AT&T’s video business has been killed by cord-cutting headwinds. Long story short, consumers are cutting the cord and turning to non-AT&T streaming services, so AT&T is just losing video subs. AT&T’s proposed solution? Let them cut the cord. But, turn them toward signing up for AT&T streaming services, so the company doesn’t let any subs slip out of the ecosystem.

The problem, though, is that AT&T has lacked the content firepower to launch a competitive streaming service. Until now. With the acquisition of WarnerMedia, AT&T can now package content from HBO, Warner Bros, TBS, TNT, Adult Swim and the DC Universe into one streaming service. That’s exactly what they are doing with the launch of HBO Max in 2020.

This new service will help AT&T offset cord-cutting losses in the video business, and in so doing, will provide a lift to AT&T’s revenues and profits. This lift should support further gains in AT&T stock.

Valuation on AT&T Stock Remains Reasonable

Last, but not least, the valuation on AT&T stock remains supportive of further gains in this rally.

To be sure, the stock isn’t as cheap as it used to be. When I first wrote on T stock earlier this year, the forward-earnings multiple on the stock was nearly equal to the dividend yield, with both hovering around 6. Now, though, AT&T’s forward-earnings multiple is up around 11, while the dividend yield has sunk to 5.2%.

On the negative side, the forward-earnings multiple is as high as it has been in a few years, and the dividend yield is below the stock’s five-year-average yield. But, one could reasonably argue that this relative premium is warranted given the improving fundamental picture.

On the positive side, the forward earnings multiple is in-line with the sector-average multiple and the stock’s five-year-average multiple. The dividend yield is also above where the stock has historically topped out at (4.8%).

Thus, I think the valuation on T stock remains reasonable. I’d only get concerned when the multiple soars substantially above 11, or when the yield drops toward 4.8%. At current dividend rates, that won’t happen until the AT&T stock price reaches around $42. Thus, this rally appears to have 5-10% upside left before maxing out on the valuation front.

Bottom Line on T Stock

AT&T stock is having its best year since 2006. While the best of this rally has already played out, the party isn’t over just yet. The fundamental picture continues to improve and the valuation remains reasonable. So long as those two things remain true, the stock will stay on its best uptrend in over a decade.

As of this writing, Luke Lango was long T.

Article printed from InvestorPlace Media, https://investorplace.com/2019/11/4-reasons-why-att-stock-can-stay-in-rally-mode/.

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