Chips are so hot right now. But not for the best of reasons. U.S. House Leader Nancy Pelosi’s visit to Taiwan has angered the Chinese Communist Party and some observers are worried about the possible retaliation.
“China and Taiwan are jointly the source of half the semiconductor chips consumed by the world, and almost all of the latest high-tech chips. If China blockades Taiwan’s trade, the loss of chip supply will cripple manufacturing and technology infrastructure around the world,” says Carl Weinberg, chief economist at High Frequency Economics.
Little wonder there was sufficient bi-partisan support in Washington last month to pass the Chips and Science Act, designed to boost U.S semiconductor production.
And even setting geopolitical problems aside, the sector faces headwinds reckons Wells Fargo analyst Amit Chanda.
“As the U.S. Federal Reserve aggressively raises interest rates to combat inflation, eventually leading to decelerating economic growth, we believe risks have increased for demand weakness to spread from low-end consumer personal computers and low-end smartphones to other semiconductor end markets within the technology economy at some point later this year or early next year,” says Chanda in a note.
Source: Wells Fargo
Granted demand currently is fairly robust in pockets, notably within the cloud computing and data centre sectors. But Chanda believes relatively high levels of inventory, combined with slower semiconductor sales growth as economic activity weakens, increase the risk of an “inventory-led correction for the semiconductor industry”.
Evidence of this came recently, he notes, when the largest semiconductor foundry in Taiwan forecast that an inventory correction cycle would occur from the second half of 2022 through the first half of 2023.
The market has clearly anticipated some of these issues. The PHLX Semiconductor Index
was trading at 26 times its next twelve months (NTM) earnings forecasts at the start of the year. Having fallen 22.6 % so far in 2022, the multiple is now down to about 16 NTM earnings.
But Chanda warns that until the downturn is properly reflected in profit forecasts investors will remain wary.
“Despite the contraction in multiples, most institutional investors continue to expect sell-side analysts to reduce consensus earnings-per-share estimates in the 15%-20% range before they feel comfortable revisiting semiconductor equities”
A cautious tone for markets sees S&P 500 futures
up just 0.1% to 4,159 and Nasdaq 100 futures
adding 0.1% to 13,278. The dollar index
is down 0.3% to 106.19 as the 10-year Treasury yield
dips 2.4 basis points to 2.729%. WTI crude futures
are up 0.6% to $91.21 a barrel and gold
is advancing 1.1% to $1,795 an ounce.
The British pound
is up 0.2% to $1.2166 as traders await the latest decision from the Bank of England. The central bank may hike borrowing costs by 50 basis points to 1.75% as it strives to tackle U.K. inflation that is running at a 40-year high above 9%.
Earnings reports on Thursday include Nikola
before the market opens, and Lyft
and Shake Shack
after the closing bell.
U.S. economic reports released on Thursday include initial jobless claims and June trade balance data, both at 8.30 a.m. Eastern.
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