If You Can Look Past Bad Optics, AT&T May be a Viable Trade

The plight of AT&T (NYSE: T) evokes some truths about human nature and investor sentiment. For years, AT&T was criticized for wandering far afield from its core wireless business. This was particularly troubling as competitors such as Verizon NYSE: VZ and T-Mobile NASDAQ: TMUS passed the company in the rollout of 5G technology. 

So it was a cathartic move when AT&T announced that it was going to exit the media business and focus on its wireless business. However, that hasn’t been evident in T stock which continues to sit at five-year lows.  

This has a lot to do with bad optics. While ripping off the band-aid was a necessary move, it’s still painful, particularly to the income investors who have stood by AT&T through its foray into the media business. But opportunistic investors know that their reaction to a market overreaction can be profitable. That may define the state of play for T stock.  

A Dividend Darling No More 

Let me start by saying, I can understand why investors would be upset. The company’s fragmented business model wasn’t delivering the share price growth that investors expected. But the company was known for having a reliable and growing dividend. AT&T is currently part of the Dividend Aristocrat club having increased its dividend for 37 consecutive years. It also has a payout ratio of over 65%. In the past, I’ve suggested that income investors could justify owning AT&T if only for its dividend.  

That's all about to change. The leaner and ostensibly more focused company is cutting its dividend as well as its payout ratio. After the company completes the sell-off of its WarnerMedia unit, the dividend yield is expected to drop to 4.5% and it will only be paying out about 40% of its free cash flow (FCF) to support the dividend. 

That sounds like a gut punch, and it is. If you own 1,000 shares of AT&T you’ve been making about $2,000 in dividend payments per year. You’re not going to make anywhere near that when the dividend cut goes into effect.  

Late to the 5G Party 

Over the next few years, AT&T will benefit from being one of the big three among U.S. wireless carriers. While it’s fair to say that T-Mobile is lapping the field right now, there would seem to be room for AT&T to compete with Verizon. And post-merger, AT&T will have significantly lowered its debt at a time when Verizon and T-Mobile carry a heavy debt load.  

Of course, AT&T will have to make a significant investment in 5G. Not only will this restrict growth, but it will highlight the fact that AT&T is behind its leading competitors in building out its 5G network. To further illustrate that point, the company is going to court to seek spectrum guardrails for 5G that will allow it to more effectively compete. 

Let’s give credit where it’s due. The company is just affirming what many investors have feared for years. But it’s just more bad optics that make it hard for shareholders to stick with the company.  

AT&T is Starting to Have That Oversold Feeling 

But here’s where the story changes for me a little bit. Trading at under $30 a share and near $27 as I write this article, T stock is looking oversold at least from a technical perspective. Analysts give the stock a price target of $30 as well.  

That’s not fantastic growth, but it also suggests that investors aren’t going to lose money for making an investment in T stock. And the company promises that its dividend yield will still be in the 95th percentile of all dividend yielding stocks.  

All that means is that AT&T is likely to be a better short-term trade than a long-term investment. In fact, I wouldn’t advise a long position on T stock until you get a better picture of the company’s financials as a more streamlined company. But if you’re a current shareholder, there’s no reason to panic. You’ll still have a juicy dividend for at least a couple of quarters.