When the Chips are Down
In this installation of Financial Focus, we will discuss the topic of the Semiconductor/chips and their effect on the equities markets. As always, we will provide some education and commentary for the inexperienced and/or uninformed.
In Chapter 1 of our publication, When to Buy and When to Sell: Combining Easy Indicators, Charts, and Financial Astrology (available on Amazon), we introduce the concept of cycles, seasonality, and sector rotation. The idea is that there is a history of certain sectors/industries that trend higher, or lower, in consistent time frames (cycles), varying times of the year (seasonality), as well as during certain economic conditions (sector rotation). Some sectors or industries have a larger influence on the markets than others.
One such sector, Semiconductor/chips, is one that heavily effects the technology industry, and the Nasdaq index. These volatile stocks are very interest rate sensitive, cyclical, and often lead the technology sector during bull and bear trends in the equities markets. Some of the top companies in this arena include Nvidia (NVDA), Advanced Micro Devices (AMD), Intel (INTC), Broadcom (AVGO), Taiwan Semiconductor Co. (TSM), and Micron (MU), as well as a few others. Most of the same stocks are included in the VanEck Semiconductor ETF (Exchange Traded Fund), known as SMH, which is often used as a gauge for the current price direction of these stocks.
Technology is generally one of the two main drivers of the economy (along with financials), and is by far the most volatile. Semiconductors are essentially the engine that anchors the technology sector, and has been one of the main catalysts that has carried the Nasdaq tech-heavy index to lofty heights over the past several years. SMH itself rose by 10x, from $65 to an All-Time High of $668, this past June, lifting the Nasdaq to its all-time high (ATH) once again. After a sizeable drop, the ETF again rose to about $638 only about 1 month ago, and has again since pulled back.
As noted, the semiconductor sector tends to move in cycles, as these companies are under a constant state of improvement (to avoid their chips becoming obsolete), and are always under pressure to keep up with the competition. These chips are very powerful, improving the capacity and speed of machinery, computers, robotics, and other technical advances including exploding AI. There always seems to be a race to be first to the next great discovery, or more powerful chip, and the leading companies will often trade at higher-than-average multiples, making them relatively expensive and higher risk.
Companies contained within the sector are also very fragile, and volatile, when it comes to stock price. The slightest upgrade, or announcement of a new major customer can send the price soaring, while any downgrade, or reported disruption in production, whether legitimate or not, can send it spiraling. The semiconductor sector will often lead both rallies and corrections in the tech-heavy Nasdaq (QQQ), so be careful not to fall victim to FOMO or FUD, depending on the situation. Short-term traders will often take profits on over-bought, and add positions on over-sold, conditions, adding to the volatility. This sector is not for the faint of heart, so manage your risk accordingly.
Current conditions including AI spending, effects of tariffs, earnings results, and high valuations significantly affects the semiconductor industry, which has again experienced recent volatility over the past few months. More chip factories in the process of being built in the U.S. are creating more manufacturing and jobs, and reducing the constant worries over whether open trade and chip transactions with China will be allowed.
Though the SMH may not technically be considered a “leading indicator,” it can provide an “alert” to potential short-term price action. Prepare for a bounce in this sector as we head into a traditionally strong period following the upcoming Mid-term Elections. “Buying the dip” has always been a beneficial strategy, but be sure to manage your risk tolerance appropriately.
For additional discussions and education, please continue to visit our BLOG section here on ASTRO-FIN, where we provide periodic updates on a variety of topics.
***As always, this information is not intended to be financial advice, or any specific buy or sell recommendation, but rather a guide to assist the reader in some further understanding of current economic conditions.
