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Growth Returning to Communications Equipment

S&P Capital IQ sees positive secular demand trends toward cloud computing, visualization, and data center transformation providing strong prospects for the communications equipment industry. As such, we are favorable on a number of large-cap and mid-cap stocks and related ETFs that hold these securities.

Innovation in these areas is beginning to change the competitive environment and the way the communications equipment industry operates. Wireless technology has evolved to fourth generation (4G) or Long Term Evolution (LTE) networks to service more data-centric user demands for the prolific growth in smartphones and tablets. Broadband speeds for wireless are creating opportunities for substitution of legacy landline networks.

This industry's market capitalization is approximately $320 billion with the top five companies representing 90 roughly % of the total industry. By market capitalization those are Cisco Systems (CSCO), Qualcomm (QCOM), Motorola Solutions (MSI), Juniper Networks (JNPR), and Harris Corp (HRS 78).

Ken Leon, an equity analyst at S&P Capital IQ, thinks that while telecom service providers have been cautious over the past several years due to the economy, spending will likely begin to rebound in the second half of 2015, as new technologies gain broader market acceptance. For 2016, S&P Capital IQ expects accelerated equipment funding related to cloud computing and data centers from the enterprise and government markets.

A pure play on the industry is iShares North American Tech-Multimedia Networking (IGN), which has $156 million in assets. The ETF is market-cap weighted, with top-10 holdings comprising 70% of assets. The stakes in Cisco, Juniper and Qualcomm were each close to 10%. IGN has a 0.48% expense ratio and trades with a $0.02 bid/ask spread.

Meanwhile, despite its name, the equally weighted SPDR S&P Telecom (XTL) recently had 61% of assets in communications equipment companies such as Harris Corp, Juniper Networks and mid-cap Arris Group (ARRS). The remainder is in telecom services companies such as Telephone & Data Systems (TDS). XTL is equally weighted, with top-10 holdings comprising 26% of assets. The weighted average market cap is $20 billion, below the $28 billion for IDV. XTL's expense ratio is 0.35% and it trades with a $0.10 bid/ask spread.

A third choice is PowerShares Dynamic Networking Portfolio (PXQ) that had 44% of assets in the communications equipment industry, but has meaningful software (30%) and technology hardware, storage & peripherals (8%) exposure as well. Juniper Networks and Cisco Systems were top-10 holdings (48% of assets) joined by Apple (AAPL) and CA (CA). The weighted average market cap is $48 billion. PXQ's holdings are selected by its provider based on their capital appreciation potential. PXQ has a higher 0.63% net expense ratio than its peers.

Yet, year to date through June 13, PXQ rose 10%, ahead of the gains of nearly 8% and 5% for IGN and XTL, respectively. However, past performance is not indicative of future results.

Follow me on Twitter at @ToddSPCAPIQ

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