Qwest's Pace Quickens

The stock puts up a late-year surge that leaves some investors scratching their heads.
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As phone-company stocks post a strong rally to close the year, none have done nearly as well as scandal-ridden, growth-challenged Qwest (Q) .

Shares of the smallest Bell have nearly doubled since August, even outpacing sector stars like

Nextel

(NXTL)

. Investors have found a renewed interest in phone, wireless and networking stocks in the second half of the year. In fact, since hitting a low for the year in August, the

Nasdaq Telecommunications Index

(IXTC)

has surged 25%.

But none of that explains exactly why Qwest has run away from the pack.

Investors and analysts say Qwest doesn't easily lend itself to comparisons with other telcos -- not because its business approach is unique, but because it turned in such a woeful performance earlier this year.

Qwest's rise, in other words, has a lot to do with the depth of its fall in August. The Denver phone giant

disappointed Wall Street with its second-quarter earnings report, which featured much wider losses and dramatically increased reserves to cover legal troubles. Qwest's shares fell 35% in the three weeks following the earnings dud.

The market's strong negative reaction wasn't helped by signs that legal issues, instead of receding, were actually mounting as reserves to pay settlements and fines ballooned to $500 million. The company is under investigation by the

Securities and Exchange Commission

and the Justice Department over previous management's aggressive business and accounting practices.

"Clearly, a lot of the concerns were overwrought," says one New York money manager who has been on the sidelines during the recent Qwest rebound. Now, says the money manager, investors seem to be running a little too far in the other direction.

"This ride up, especially in recent months, looks like it's being pushed by a lot of hot money," says the money manager, referring to market-momentum investing that gloms onto rising stocks.

Catching Up
Qwest back in step with telecom index

With its old-line core local phone business, Qwest also looks like a relatively solid performer in a sector ravaged by revenue erosion and price wars. Outfits such as value shop Legg Mason have been big believers, with a 12% stake in the company.

But skeptics point out that Qwest has parted with some of its more attractive businesses, leaving it with a costly national fiber-optic network and a stagnant local phone operation. And by ditching its wireless business, Qwest took itself out of the biggest growth market to sweep through telecom this century.

The company has posted a net loss of $2 billion on $14 billion in sales over the past year, but it promised this summer to reach break-even by early next year. Qwest has found it difficult to pull itself out of the red ink without its lucrative directory business, which it was forced to sell to pay off debts last year.

Bulls are willing to ignore all that because at some point, Qwest's problems will become someone else's, as the belief goes. Creeping consolidation will one day find Qwest in a takeover deal with a larger telco. But to some, the right match doesn't seem obvious.

The other Bells --

SBC

(SBC)

,

BellSouth

(BLS)

and

Verizon

(VZ) - Get Report

-- have plenty of wireless and fiber expansion efforts occupying their attention at the moment. Meanwhile,

AT&T

(T) - Get Report

and

MCI

(MCIP)

have begun a retreat from the local phone market.

"There is a deal somewhere down the road, no doubt -- at least that's the CEO's modus operandi," says the money manager. "But you can't sell unless you have a buyer."