Semiconductor stocks have had a rough summer, but long-term trends remain.
Over the past decade, the best-performing sector in the market has been the semiconductor sector. However, many investors shy away from semiconductor stocks due to volatility.
For investors with more than five years of experience, avoiding tips can cost you a huge amount of profit. After all, every device people use has more chips in it every year, and that number only seems to increase with the AI revolution.
Moreover, now may be a particularly good time to invest in this sector.
Image source: Getty Images.
Reason 1: Chips fell in the third quarter due to concerns that it might not materialize.
While the overall market is expecting a modest increase in the third quarter, semiconductor stocks are not. VanEck Semiconductor ETF (SMH -2.68%)The index, which tracks the sector’s top 26 names, fell 5.4% in the third quarter, an even more dismal 11.5% drop from its all-time high set in mid-July.
There were various reasons for the decline, which collectively led to such low returns. Still, nothing seems dire enough to affect the long-term situation.
After all, semiconductor stocks were already up big at the beginning of the year. It was behind Nvidia (NVDA -3.66%)SMH’s largest holding stock with monster first half. Therefore, a pullback or correction at some point was not unexpected, and perhaps investors were looking for an excuse to take profits.
This excuse was announced in July, when weak employment data raised fears of a possible recession. Meanwhile, skeptics of the artificial intelligence (AI) boom argue that as big cloud infrastructure companies report their earnings, it will take more sales and more for these companies to justify their large capital investments in chips. Frustrated by the need to show profit growth, he sold his chip stocks.
Meanwhile, spending on non-AI chips such as PCs, smartphones, and electric vehicles remained restrained. All of these end markets are becoming crowded due to corporate AI spending and consumer restrictions due to high interest rates.
However, by the end of the quarter, the US had better economic indicators. Job growth has returned to higher levels since the July scare, and inflation continues to fall toward the Fed’s 2% target. On September 18, the Fed cut the federal funds rate by 50 basis points, more than some had expected. This could lead to a recovery in consumer spending on big-ticket items such as cars, and ease corporate spending.
Additionally, virtually all technology executives remain extremely bullish that AI ramp-up will continue for some time. All companies in the Magnificent Seven predict increased investment in AI and claim to have early returns that should grow in the future. In early September, Oracle Chairman Larry Ellison dismissed the pessimism about AI spending, calling the AI race an “ongoing battle for technological superiority” between deep-pocketed giants and calling it a “forever… “It’s an ongoing competition.”
Reason 2: Micron’s earnings defy skepticism
Late September, Micron Technology (MU -3.28%) announced fourth-quarter results, beating expectations and providing better-than-expected guidance. Like other semiconductor stocks, Micron was off nearly 50% from its June high, but the stock rebounded sharply after the earnings release, allaying fears some Wall Street analysts had painted over the summer. It seems so.
Micron is one of only three leading manufacturers of dynamic random access memory (DRAM) memory in the world, and DRAM is built into nearly every electronic device in the world. So Micron’s outlook is a good barometer of the health of the chip market.
By all accounts, Micron’s high-bandwidth memory (HBM) products for AI applications are in high demand in AI data centers, with Micron indicating that all HBM capacity is already sold out for 2025. I am. Additionally, management mentioned the growth of AI. PCs and smartphones can now drive growing demand for non-server DRAM applications next year.
Therefore, a prolonged downturn in PC and smartphones could lead to a very strong recovery in 2025. Devices purchased during the 2020 and 2021 pandemic are aging and newer models will come with AI-enabled features. This means more purchases of high-content devices, which bodes well for chip stocks.
Accordingly, Micron’s management remains highly optimistic about 2025, predicting a significant improvement in profitability and a “significant revenue record” in 2025.
Reason #3: China’s big stimulus package
Finally, last week China launched a major economic stimulus package, with policymakers hinting that more fiscal support is on the way.
China’s economy is important to the semiconductor market because China has a huge population and consumes more than half of the world’s semiconductors. Again, China consumes more than half of the world’s chips.
Even though some of the most advanced semiconductors are banned from sale or use in China, China’s 1.4 billion people still consume large quantities of chips for things like smartphones, PCs and non-AI servers. Additionally, China has a thriving clean energy market, accounting for 80% of the world’s solar power generation. New energy vehicles, categorized as battery-powered or hybrid electric vehicles (EVs), just reached 50.7% of all new car sales in China in July, surpassing traditional internal combustion engine (ICE) vehicles for the first time. EVs and hybrids all require more semiconductors than traditional vehicles.
China’s economy is in serious trouble after the pandemic. This is because the government’s clampdown on high-tech companies, the prolonged “zero coronavirus” lockdown, and the bursting of the real estate bubble are causing a significant drop in consumer spending. However, after three years, it appears that China is finally starting to get serious about recovering its growth.
This is good news for semiconductor stocks, which have had a tough time in recent years due in large part to China’s economic downturn and the resulting overhang. If this reverses, it would provide yet another catalyst for semiconductor growth next year.
