We have consistently viewed the technology sector either as fairly valued or slightly overvalued for the past 18 months or so, and now the communication services sector (trading at a modest premium to its fair value) has caught up. We advise investors to be selective, though there are pockets of value for the patient.
Taking a step back, with these two sectors trading at or above fair value, we would prefer a wider margin of safety and are quick to gravitate towards firms with established economic moats, or sustainable competitive advantage, which might be in a better relative position to withstand near-term revenue and operating margin volatility.
Data Analytics
As enterprises allocate spending towards data analytics, we see increasing complexity leading to opportunities for legacy technology providers and services firms. The quantity of data has exploded, resulting from new sources such as machine data, quantifiable sensors, Web logs and Web applications.
We continue to believe that this global secular theme will play out, with new software technologies, cheaper memory and cheaper processing allowing for broader application of statistical models to drive decision-making. We view this evolution as necessary, since "old" technologies (such as traditional data warehousing) are not able to tackle many of these new opportunities in cost-effective ways.
However, despite this innovation, legacy systems for organising and analysing operational data are unlikely to be replaced. This is not a winner-take-all scenario, and instead we see many of the entrenched tech conglomerates willing to cannibalise some of their product portfolios and invest in leading-edge products and services in order to drive switching costs higher and generate incremental revenue.
Digital Advertising
Advertisers are increasingly driven by ROI (return on investment), and spending continues to gravitate towards ad platforms that can slice up audiences and be priced in a granular way, frequently in real time. These increased appetites for measurability and quantification of an ad's effectiveness will lead to a rapid expansion in programmatic advertising sold by algorithms instead of salespeople. As Internet companies pursue growth, we expect increased M&A activity and geographical expansion, particularly beyond the mature markets of the US and the UK. We also anticipate that companies will invest heavily in optimising their advertising products and content for mobile devices as the end market continues to evolve.
The success and growth of social media platforms demonstrate that display, not search engine advertising, is the fastest form of digital advertising growth. Regardless of the ad format, advertisers are able to spend with accountability and measurability. We believe an increasing amount of display advertising will be sold programmatically, reinforcing what we believe to be key assets in forming and/or protecting an economic moat. First, companies that have unique customer insights will be able to sell more advertising, in our view. Second, firms that can provide superior execution and liquidity for programmatic advertising will see solid growth, although the sustainability of this growth is not likely to be obvious or defensible. The Internet market is maturing in developed markets due to increased broadband and smartphone penetration as well as advanced digital advertising markets. We expect companies to look beyond the US and UK for growth, both organically and inorganically.
Telecom
Consolidation is occurring in Europe, cross-border. 
Vodafone (VOD) recently bought Ono, the largest cable operator in Spain, while the largest cable operator in France is looking to acquire the second-largest phone company in the country. Importantly, the EU regulators have approved Telefonica Deutschland's purchase of KPN's (KPN) German subsidiary, E-Plus. We anticipate this deal will close before the end of the year, and discussions are ongoing regarding the potential acquisition of Yoigo in Spain and possible consolidation in Italy.
Additionally, the European operators' connections to Brazil are influencing M&A there with Telefonica (TEF) close to an agreement with Vivendi (VIV) on the purchase of GVT. Also, America Movil (AMX) and Oi are discussing a bid for Telecom Italia's (TIT) Brazilian operation, TIM Brasil. We anticipate additional M&A activity to continue around the world, which has pushed up the prices of many stocks. However, there are still pockets of value across the global telecom space. Most come with baggage, either in the form of lagging sales growth or higher legacy costs, so we encourage investors to be highly selective.
The US telecom industry remains at a unique point in history, with consolidation, regulatory policy and technology converging. The industry regulator, the FCC, has forcefully taken the position that existing competition needs protection, effectively killing any hope that Sprint (S) and T-Mobile (TMUS) would merge to better compete with giants AT&T (T) and Verizon (VZ). This action provides additional intrigue as regulators consider the implications of significantly greater media concentration that the proposed acquisitions of DirecTV and Time Warner Cable would present.
At the same time, the debate surrounding the "open Internet," or "net neutrality," has taken on greater importance, with the FCC currently combing through thousands of public responses on the issue as it prepared to propose new rules. As these issues are debated in Congress and the court of public opinion, there is a risk that the FCC or the Justice Department puts a hold on consolidation. Ultimately, we don't expect a major change to the competitive positioning of firms within the industry in the near term. Of particular concern, we expect Sprint and T-Mobile to struggle to generate acceptable profitability, placing a significant strain on their finances as they attempt to purchase additional wireless spectrum at upcoming auctions.
