June 3rd, 2022

Semiconductor Paradox 

Today is all about semiconductors.  Be not afraid.  

The iShares Semiconductor ETF (SOXX) has been in free fall since 2022, falling some 30%.  Metaverse favorite, Nividia (NVDA) was not immune to selling pressure and fell some 55% from the peak in December 2021 to the May 2022 low.  You can pick any of the big names from Advanced Micro Devices (AMD) to Intel Corporation (INTC) and they all have similar charts.

Wait, you say!  I thought there was a chip shortage and that’s why I can’t get my fancy new Ford Motor Company (F) Bronco.  Yes, there has been quite the paradox since chipmakers have been dropping even as demand stays strong.  

Surging yields and the cost of manufacturing have pushed some companies like Taiwan Semiconductor Manufacturing Company (TSM) to raise prices.  The fear has been that if the economy slows down, the demand for chips will too, or higher prices will deter future demand.

During the height of the pandemic, as more people spent time working from home, computer sales skyrocketed.  People spent stimulus money on crypto mining rigs and video game systems.  The supply chain and a volatile market didn’t help the situation.  The theory was that once the supply chain issue was fixed, supply would meet demand and that will cause prices to fall.  Then the growth stocks started to fall and pretty soon semiconductor companies were dragged down with the rest of the market and became one of the hardest-hit sectors.  

While companies like Peleton (PTON) have struggled in 2022 because investors feared people would pile back into work and their offsite gyms instead of beefing up their at-home gym equipment, semiconductors are a different story.  

More and more of the world needs microchips to run.  Everything from cell phones to vehicles uses chips and that demand isn’t going away anytime soon.  You’d be hard-pressed to go through your daily routine without interacting with something that uses a chip.  

Do you envision that changing over the next year or more?  Probably not, and that means you could be getting in on a depressed sector with long-term growth potential.  

The next hurdle for the sector is the expense they are incurring to build more localized chip fabrication plants in the US, China, Singapore, Israel, and other countries to reduce the supply chain risks they’ve been seeing the last couple of years.  There will also be the added expense of finding and training new hires.  

Whether the Metaverse is the next catalyst of innovation or there’s another trend that takes over – maybe self-driving cars come first –  I’m willing to guess that microchips will be needed. 

One thing that we’ve seen is a reluctance of people to go back to the workplace, and as a result, companies are now investing more into cloud security, online collaboration platforms, and hybrid working environments where people can work anywhere.  This trend will continue and will only increase the need for chips.

Now, let’s take a look at a relative performance chart of the SOXX to the SP500 (SPX).  The SOXX is the top chart, with a short, medium, and long moving average.  The bottom chart is the percentage gain of SOXX to the SPX.

The chart is showing that SOXX was performing better than the SPX, but losing its ground since January, and finally started performing worse than the SP500 in April. Both were trending down for months.

On the lower chart, you can see that the SOXX relative performance to the SPX hit a bottom and has made higher highs and high lows over the past month, and even broke out of its downward trend line. This means the SOXX is now outperforming the SP500.

Back to the upper chart. The price has broken through its short and medium moving average lines and is marching up to test the long-term moving average.

I’m anticipating a move up to the red-dashed line, the 200-day exponential moving average. Once around that level, I would expect to see some volatility as it tests the line, but if we can break out from there, we could see semiconductor stocks really take off from there.

It’s a depressed sector with upside potential.

Today’s trade ideas are in the semiconductor industry.

Advanced Micro Devices (AMD) just broke above its 200-day exponential moving average (dashed red line) and has been in an uptrend since the beginning of May. Since it just broke through the moving average, I wouldn’t be surprised to see more movement to the upside and have it come down to retest that line. If it holds the 200-day, we could really see AMD pop.

Its current P/E ratio is 40.5 and the forward P/E is 21.73, suggesting that it is trading at a nice discount to forward earnings estimates. 

Nvidia (NVDA) is a stock that I own at $217.  If I liked it at $217, I certainly like it now at $195.  The stock tends to be rich in option premium for cash-secured puts, or jade lizards for you option traders out there.

I have traded it using the wheel strategy of selling puts, then covered calls and while the last couple of months weren’t fun, I’m in the stock for the long haul and will continue to sell calls to reduce my cost basis.  There is some near-term resistance at $210 to watch out for though, but NVDA should break through that line if the rest of the sector moves up. 

If you have any questions, comments, or anything we can help with, reach us at any time.

Jeff

Guest Writer, Filthy Rich, Dirt Poor

Editor, Wealthy Investor Society