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Communication services: Pockets of opportunity

Key takeaways

  • The communication services sector includes a wide range of companies and segments—including some that are very economically sensitive and some that are more defensive.
  • Despite market volatility, long-term investment opportunities exist across the sector, including among streaming platforms and broadband and wireless service providers.
  • Companies that can cut costs and maintain solid balance sheets may have the best long-term prospects to come out of a downturn in a stronger position.

For 2023, investors in the communication services sector are worried about many of the same things that caused markets to turn volatile in the past year. Interest rates are rising, inflation is high, war continues in Ukraine, and recession risk has risen around the globe.

The big question is whether those fears are enough to finally slow the spending by US consumers that has kept the economy growing over the past 2 years. That matters because consumer spending plays a big role in how well stocks of many companies in the communication services sector might perform.

This sector won't be insulated from these challenges in 2023. But because it contains a broad diversity of companies, whose sensitivity to the economic cycle varies widely, it also may offer a wide variety of opportunities both now, and when stronger economic growth eventually returns.

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Coming off a rocky year

At the sector level, in aggregate, communication services did not perform well in the past year. As of late 2022, the sector's year-to-date performance lagged the broader market by about 20 percentage points.

Chart shows 2022 year-to-date performance for the communication services sector and for the S&P 500.  As of December 9, communication services sector stocks had lost 35.9% at the index level, compared with the S&P 500's 16.17% loss year-to-date on a total return basis.
Past performance is no guarantee of future results. Communication services sector performance is represented by the S&P Communication Services Select Sector index. Data as of Dec. 9, 2022. Source: S&P Dow Jones Indices, a division of S&P Global.

That underperformance was driven in no small part by the sector's heavy exposure to tech-related companies (another sector that faced significant challenges in 2022), and to company-specific challenges faced by some of the sector's largest players.

Yet under the hood, there were also segments and companies within the sector that had a strong year—a fact that isn't that surprising when one considers the wide diversity of segments and business models encompassed by the sector.

A uniquely varied sector

The communication services sector was created in 2018 by taking some of the so-called FANG stocks (namely, Facebook, Alphabet, and Netflix), and mixing them with certain entertainment, telecommunications, and technology companies.

The new sector that was created by this mash-up contains a wide variety of dissimilar companies. Some companies in the sector are more economically sensitive than others. These include high-growth, cyclical stocks of companies that sell digital advertising—a service that companies can easily stop purchasing in a downturn.

But the sector also includes some much less economically sensitive companies that provide utility-like services—including mobile phone and home broadband internet services. These companies have offered slow, steady growth over time. And the sector includes many other companies between those 2 extremes. These include those in the video game, television, and theme-park segments.

Table shows various segments of the communication services sector ranked by level of economic sensitivity.  Wireless service providers rank as least economically sensitive, while traditional advertising ranks as most economically sensitive.
Source: FMR Research.

Potential opportunities for 2023 and beyond

I invest with a long-term perspective. Looking to 2023 and beyond, I believe the companies in the sector with the best long-term prospects are those that can control costs and maintain solid balance sheets, regardless of their level of economic sensitivity.

For example, sector heavyweights Alphabet () and Meta Platforms () are often thought of as cyclical stocks. Much of their revenue comes from digital advertising, and their absolute levels of growth tend to ebb and flow with advertiser demand—which rises and falls with the economy. However, as long as management at each company can control costs, their business models could remain resilient through the economic cycle—and even see some attractive potential upside in an eventual recovery. Digital advertising has historically bounced back quickly in economic recoveries, and at very high incremental profit margins.

Communication services also contains the entertainment segment, a diverse and variegated group of companies. These include traditional TV broadcasters and cable companies, which are likely to continue their long-term declines. Many of them carry high levels of debt which makes them vulnerable to rising interest rates. Some of these cable companies are raising prices in an effort to offset falling subscriptions, which often makes subscriptions fall further. In contrast, streaming-media platform Netflix () is taking the opposite approach by offering more lower-cost subscription options. A recession may accelerate the shift to lower-cost streaming, which could play to the long-term advantage of streamers like Netflix, who are offering more options to attract and retain subscribers, and thereby earn a better return on existing levels of content investment.

Wireless and broadband providers are among the less economically sensitive companies in the sector. While consumers may cut the cord to their television and cable subscriptions, they are less likely to cancel wireless and broadband subscriptions offered by companies such as T-Mobile (), Comcast (), and Charter Communications (). These services have become more like utilities because consumers see them as “must-haves” even in a recession.

Fund top holdings*

Top-10 holdings of the Fidelity® Select Communication Services Portfolio () as of October 31, 2022:

  • 21.0% – Alphabet Inc. ()
  • 10.7% – Meta Platforms Inc. ()
  • 8.4% – Netflix Inc. ()
  • 5.7% – Activision Blizzard Inc. ()
  • 5.7% – Charter Communications Inc. ()
  • 5.6% – Comcast Corp. ()
  • 5.2% – T-Mobile US Inc. ()
  • 4.6% – Liberty Broadband Corp. ()
  • 3.2% – Walt Disney Co. ()
  • 2.8% – Liberty Media Corp. ()

(See the most recent fund information.)

The upside to a diverse sector

One of the benefits of investing with a long-term view is that I can look beyond a potential recession and focus on investing in stocks of companies that may be challenged in the short term but can emerge stronger on the other side of a pullback. The communication services sector can be part of an all-weather portfolio with downside protection in a recession, but enough cyclicality to also do well as economic conditions eventually improve.

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Before investing, consider the funds' investment objectives, risks, charges, and expenses. Contact Fidelity for a prospectus or, if available, a summary prospectus containing this information. Read it carefully. * Any holdings, asset allocation, diversification breakdowns or other composition data shown are as of the date indicated and are subject to change at any time. They may not be representative of the fund's current or future investments. The Top Ten holdings do not include money market instruments or futures contracts, if any. Depository receipts are normally combined with the underlying security. Some breakdowns may be intentionally limited to a particular asset class or other subset of the fund's entire portfolio, particularly in multi-asset class funds where the attributes of the equity and fixed income portions are different. Under the asset allocation section, international (or foreign) assets may be reported differently depending on how an investment option reports its holdings. Some do not report international (or foreign) holdings here, but instead report them in a "Regional Diversification" section. Some report them in this section in addition to the equity, bond and other allocation shown. Others report international (or foreign) holding as a subset of the equity and bond allocations shown. If the allocation without the foreign component equals (or rounds to) 100%, then international (or foreign) is a subset of the equity and bond percentage shown.

Views expressed are as of the date indicated, based on the information available at that time, and may change based on market or other conditions. Unless otherwise noted, the opinions provided are those of the speaker or author and not necessarily those of Fidelity Investments or its affiliates. Fidelity does not assume any duty to update any of the information.

References to specific securities or investment themes are for illustrative purposes only and should not be construed as recommendations or investment advice. This information must not be relied upon in making any investment decision. Fidelity cannot be held responsible for any type of loss incurred by applying any of the information presented. These views must not be relied upon as an indication of trading intent of any Fidelity fund or Fidelity advisor. Investment decisions should be based on an individual's own goals, time horizon, and tolerance for risk. This piece may contain assumptions that are "forward-looking statements," which are based on certain assumptions of future events. Actual events are difficult to predict and may differ from those assumed. There can be no assurance that forward-looking statements will materialize or that actual returns or results will not be materially different from those described here.

Past performance is no guarantee of future results.

Investing involves risk, including risk of loss.

Stock markets are volatile and can fluctuate significantly in response to company, industry, political, regulatory, market, or economic developments. Because of its narrow focus, sector investing tends to be more volatile than investments that diversify across many sectors and companies. Sector investing is also subject to the additional risks associated with its particular industry. The communication services industries can be significantly affected by government regulation, intense competition, technology changes and general economic conditions, consumer and business confidence and spending, and changes in consumer and business preferences. Foreign securities are subject to interest rate, currency exchange rate, economic, and political risks. The fund may have additional volatility because of its narrow concentration in a specific industry. Non-diversified funds that focus on a relatively small number of stocks tend to be more volatile than diversified funds. The S&P 500® Index is a market capitalization-weighted index of 500 common stocks chosen for market size, liquidity, and industry group representation to represent US equity performance. The S&P Communications Services Select Sector index comprises those companies included in the S&P 500 that are classified as members of the communications services sector, with capping applied to ensure diversification among companies within the index.

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