The world’s third-largest chip manufacturer Flex warned last week it expects the global shortage to continue until at least mid-2022, as the rebound in car sales and boom in tech demand continues to overwhelm supply. Renewed tensions between China and the US have also weighed on supply.
The PHLX Semiconductor Sector (SOX) index, which is a market cap-weighted index composed of the 30 largest companies primarily involved in the design, distribution, manufacture and sale of semiconductors, has risen 143.5% from 18 March 2020 to 9 June 2021. This compares to a rise of around 80% in the five years to 18 March.
“I have been investing in semiconductors since the late 1990s and I have never seen anything quite like what we are living through,” said manager of the Sanlam Artificial Intelligence fund Chris Ford.
“It is a very extraordinary period.”
Taiwan Semiconductor Manufacturing Company (TSMC) is one of the most popular equity investments in the Investment Association universe, and is currently represented in the top ten holdings of 191 funds, according to FE fundinfo data.
This compares to 67 funds holding Nvidia and 28 holding Intel.
TSMC, which is the largest manufacturer of semiconductors by market cap, is up 9.9% from the start of the year to 8 June.
The second largest by market cap, California-based Nvidia, is up 34.5% over the same period.
Ford said that stocks in the semiconductor sector are now “extraordinarily expensive right the way across the landscape”, and investors may not understand the factors impacting their price.
“We need to be careful about the valuations, because if there is any sign of inventory starting to build or pricing beginning to waver, then there is no valuation support for these companies at all,” he added.
“For most of my career, it has been a part of the market that has slightly been the reserve of specialists, because of the requirement to understand quite how these companies work.
“It is difficult for me to believe that all of those [investors] who are now owning semiconductors have become specialists. We have had a great run in semiconductors and it is fine for the moment.
“But at some point, this is going to turn. That cyclicality that has worked for us so nicely on the upside is what always, always works against us on the downside in this space, without exception.”
“It is a cyclical business, where if the top line for margins collapse, and the returns on equity collapse, ultimately, the stocks do the same. I am just sounding a warning bell – you really need to understand what it is you have got here.”
On a longer-term view, however, Ford and other investors are bullish on the sector, which is a crucial component in the ongoing global technological revolution.
Amid the context of the pandemic, the semiconductor market posted a 6.5% increase in earnings over 2020, according to Freedom Finance Europe, with this growth expected to continue with the mass adoption of the Internet of Things and 5G, as well as the rising demand for semiconductors in the automotive industry.
Jeremy Gleeson, manager of the AXA Framlington Global Technology fund, said while his team “continues to monitor developments closely”, he sees the shortage as a “constructive event for the industry as it should result in better visibility” for the sector.
“More broadly, the semiconductor industry remains critical to the global economy, with this only highlighted by the recent shortage,” he added.
“While we think current conditions could help manufacturers by supporting their pricing power, the longer-term opportunity lies in the growth of the market.”
Matthews Asia CIO Robert Horrocks agreed the shortage is a net positive for the firm’s portfolios, given the dominance of Asia in semiconductor manufacturing, but explained the most dramatic share price gains are likely to be seen among smaller players the firm has less exposure to.
“In lean times there is an overflow into [smaller] names and all of a sudden they are running at full capacity, and so you see those stock prices move very, very quickly,” he added.
“When you get back to a more normal environment, or if the big players decide that they are going to build a massive new lab to meet the new long-term demand, these marginal players can fall away just as quickly as they rose.
“We are more committed to the core giants of the industry,” Horrocks concluded.