Investors were blessed with semiconductor stocks in February, as the overall market reversed its January gains. Chipmakers saw more gains after a strong start to the year. This was particularly true for the fabless semiconductor sector, which saw 6.3% growth thanks to strength in stocks such as Monolithic Power Systems and Nvidia (NVDA), as well advanced micro devices (AMD) and Nvidia (NVDA).
However, even though chipmakers announced December-quarter earnings in December, a host of data about shipments, prices, and inventories indicated that the semiconductor industry was still in a downturn.
Cyclical investors were those who speculated on the reversal of semiconductor stocks' deep, periodic downturns.
Old Industry Cycle, New Twist
This cycle has been different from all others in the long history of booms and busts in the semiconductor industry. Through years of destabilized demand trends and knotted supply chain, the cycle managed to make its way through the crisis. Another factor was also at play as cyclical investors began to invest in top stocks, causing them to show early signs of an upturn. Another factor that contributed to the upturn was optimism fueled by the view that more diverse end markets would lead to a stronger, more stable chip industry.
Nvidia climbed more than 58% among fabless chip stocks during the year to February. Monolithic Power gained 37%. Onsemi (ON), and STMicroelectronics (STM), were the top chip manufacturers. They jumped 24% and 50%, each.
Some semiconductor stocks are still climbing. Nevertheless, a number of fundamental industry metrics point towards difficulties ahead. Many semiconductor companies report persistently high inventories with customers and in sales channels. An extensive segment of analysts who are familiar with assessing chip cycles believes that investors who believe the bottom is in semiconductor stocks by 2022 may be too optimistic.
Robert Maire, an analyst at Semiconductor Advisors, stated to IBD that no one has ever said this is the bottom, or that things will improve soon.
Pandemic Disrupts Semiconductor Industry Cycle
One thing is certain: The end markets for semiconductors are much more diverse than they were during previous chip cycles. Personal computer sales and smartphone sales were the main determinant of booms and busts in previous booms. Computer chips are now found in many more devices. This reduces industry dependence on one product type.
The current chip cycle clearly shows that memory chips, processors for PCs, and chips for smartphones are all in decline. However, chip sales in the automotive and industrial markets are still strong.
However, Semiconductor Advisors' Maire states that overall, there has been a steeper than usual down cycle due to the unexpected spikes in tech product demand during the Covid-19 pandemic.
Maire stated that the industry was "whippedsawed" by Covid and supply chain problems. "In a very short time, we went from a shortage of food to an excess."
Semiconductor Stocks in Industry Recovery In The Late 2023
In a note to clients, Christopher Wood, a Jefferies analyst, stated that rising chip stocks could be due to the fact that the industry must still reconcile its overstocked inventories. Wood warned of a "coming chips glut".
Wood stated that the market is presuming a heroic bottoming of the semiconductor inventory correction in half of this year, and a presumed recovery of demand in the second quarter, for which there is currently no evidence."
Wall Street analysts expect that sales in the larger chip market will turn positive in 2023's second half. Many believe that PC chip sales will be one of the first to recover. This should benefit chipmakers AMD (INTC) and their archrival Intel (INTC).
Wood suggests that it is possible for the "orgy," or pandemic buying, of PCs in 2020-2021 to also reduce demand for three-to four years. He says that smartphone sales are at risk from a similar scenario.
Wood stated that chips used in auto sectors are seeing an increase in stock. "The lack of automotive chips in the past has resulted in substantial double orders."
According to FactSet, analysts see AMD sales and earnings declining through the first two quarters before turning upwards. Intel is expected shift from loss to profit during Q3 and report an earnings gain as sales edge higher for Q4.
According to World Semiconductor Trading Statistics, there will be a 4.1% drop in total semiconductor sales by 2023. The 2022 sales rose by 4.4% and then jumped 26.2% in 2021.
Artificial Intelligence Spurs Semiconductor Industry Investments
The data center market tied to cloud computing providers and web services is one of the most vulnerable markets for advanced chips. The market for artificial intelligence, particularly graphics processors, is a clear exception.
Certain semiconductor stocks that are considered to be beneficiaries of this trend have seen a boost from the excitement surrounding generative AI applications like ChatGPT.
Nvidia is the leader in this group, with its accelerators, graphics processing units and high-performance computing hardware. Broadcom (AVGO), which makes application-specific integrated chips, and Marvell Technology for high-speed networking hardware and ASIC chips are two other chip stocks that could benefit.
Broadcom's earnings and sales have remained strong despite the pandemic's hiccups. Marvell analysts expect sales and earnings to decline in the first three quarters of this year. However, they anticipate narrowing gains in the fourth quarter.
In a note to clients, Mark Lipacis, a Jefferies analyst said that there is a shift in cloud service provider's spending priorities to AI and technical infrastructure. Nvidia is the largest beneficiary of the shift to AI. Broadcom and Marvell are beneficiaries in networking upgrades, semi-custom chips and other related activities.
Memory Chips are in decline
The current correction is similar to the previous chip cycle downturn that lasted from late 2018, until early 2020. Memory-chip manufacturers have led this correction. Micron Technology (MU), and other memory-chip manufacturers, began warning of market weakness in mid-2022.
This cycle in semiconductor stocks has a major problem: the disruption caused the Covid pandemic. The pandemic began in 2020 and fueled an explosion in purchases of tablets and PCs. As they were sheltered from the elements, consumers also spent a lot on home appliances and consumer electronics.
Pandemic fears vanished and the economy was able to reopen. Consumers began to spend less on electronics. Micron is now expected to report losses in the fourth quarter of its fiscal year. This compares with an $8.35 profit for 2022.
The September quarter is expected to see sales rise, and the company will shift from loss to profit in December.
Automakers still dealing with chip shortages
During the pandemic, automakers were faced with a severe shortage in chips. Carmakers found themselves in the back of the queue at chip foundries when they tried to place new orders. The shortage of auto chips has only recently begun to improve.
These chips are more difficult to produce than chips made by Taiwan Semiconductor Manufacturing, (TSM).
Semiconductor stocks that serve the auto market include Onsemi, STMicroelectronics as well as NXP Semiconductors and Texas Instruments (TXN).
However, in all these segments of the chip landscape unpredictable consumer behavior and tight supply chains have altered traditional chip-cycle metrics.
IBD was told by Bill Jewell, a Semiconductor Intelligence consultant, that "Covid threw an wrench into the cycle."
After the pandemic, factories were closed and then reopened in an effort to meet a rapid increase in demand for computers and other devices. Jewell states that consumers stopped buying after getting what they wanted.
Jewell stated that smartphones and PCs account for a large portion of semiconductor consumption. This includes memory. When those markets slow down, it can have a significant impact on the market. Although the automotive and industrial markets are still strong, they are not as large as the smartphone and personal computer markets.
Analysts expect STMicroelectronics earnings to rise in Q1 & Q2, before falling below year-ago levels. The earnings and sales forecasts for Texas Instruments, NXP, and Onsemi are lower all year.
SWKS Skyworks Solutions 24% 110
TSM Taiwan Semiconductor 20% 85.51
- March 15th
Semiconductor Stocks vs. 'Trough Calling Euphoria’
Ross Seymore, a Deutsche Bank analyst, sees the current situation in the semiconductor industry as a relic of pandemic disruptions.
Seymore stated in a recent note that the sector's fundamentals had shifted to the "hangover" stage after two years of shortages in semiconductors. He said that chipmakers have lowered their earnings and revenue estimates in the last two quarters due to record-high inventories.
Seymore stated that investors who have been watching the weak earnings reports recently now expect a trough in 2023 and a fundamental rebound in the second half. This optimism is reflected in the rise of Philadelphia Semiconductor Index (or SOX) this year.
The SOX has risen 15.5% year-to-date compared to a 1.6% increase for the S&P500. The SOX comprises the top 30 chip stocks that are traded in the U.S.
Seymore stated that while we have seen this cyclical investing "playbook" used successfully many times before, he also noted that the timing of the eventual recovery quickly becomes crucial once the trough-calling excitement subsides.
He said, "We remain somewhat worried that the magnitude and demand for inventory may limit the slope to the revenue, margin, and EPS (earnings-per-share) recovery -- even though the first-half of 2023 is indeed at the bottom."
Chip Inventories Hit Record Highs
Seymore stated that aggregate inventory data from 26 of the biggest semiconductor companies showed that inventories reached their highest level since 1994 when Deutsche Bank started collecting such data.
Seymore stated that the industry is now in the "hangover" stage. The primary concerns are the length/magnitude and timing of the headaches, as well as the slope/slope of recovery.
Seymore has a cautious outlook and is focused on semiconductor stocks that have reasonable valuations and are accompanied by company-specific catalysts. Broadcom, Marvell and MaxLinear (MXL), NXP Semi (ONSEMI), NXP Semi (QCOM) are his top picks.
Auto Chip Stocks Remain Strong Segment
In the meantime, automotive chip demand should remain strong in 2023, Wells Fargo analyst Gary Mobley stated in a recent note to clients.
Automobile sales have been affected by production constraints for over two years due to chip shortages. Mobley stated that there is still a high demand for new cars.
Additionally, automotive-chip manufacturers are benefiting from an increase in semiconductor content in every vehicle. He said that this is due to the growing trend of autonomy and electrification.
Mobley stated that "as long as light vehicle production continues to improve towards normalized levels, higher inventories (chip) are necessary."
According to FactSet consensus estimates, Allegro will see earnings growth in the next three quarters before slowing down. For the next five quarters, sales gains are expected.
Semiconductor Stocks: Soft Landing?
Analysts predict a gradual recovery, with some segments turning more positive than others.
C.J., Evercore ISI analyst C.J. Muse, Evercore ISI analyst, has predicted a "soft landing," for chip stocks and the semiconductor sector rather than a severe downturn. Muse also stated that the China economy's reopening should aid in the recovery.
Daniel Morgan, Synovus Trust's senior portfolio manager, stressed that the health and performance of the semiconductor sector is an important indicator for the rest of the tech sector.
Morgan stated in a note to clients that the semiconductor sector was the plankton for the technology and manufacturing ocean. Everything needs chips to function. The chip sector will typically lead the technology sector out the valley. It will also be the first sector to show green sprouts, foreshadowing a possible recovery.
Morgan said, however, that there were no signs of a rebound at this point.
What does this mean for investors in semiconductor stocks and their portfolios? The third quarter 2022 was the start of the downtrend in the chip cycle. Morgan stated that it could continue for six quarters, much like the 2018-2019 downturn.