Deglobalization Bonanza for Semiconductors
Semiconductor investors are wrong to worry about rising geopolitical tensions. Deglobalization and energy transition will be a boon for the chip sector.
According to the Investor Day presentation published in November, business is booming at ASML Holding NV (ASML), the Dutch company that makes machines that make semiconductors.
Investors should buy semiconductor equipment stocks into the next pullback.
This is an unpopular opinion. Many investors are convinced that the semiconductor sector faces a glut of supply. Investors are conflating chip supply for mature markets such as personal computers, smartphones and other devices, with demand from next generation marketplaces surrounding hyperconnectivity.
More importantly, they are missing the multiplying effect of deglobalization and energy transition.
For the better part of the last three decades, Western companies have been busy offshoring production capacity to China and other countries in Southeast Asia.
The most important concentration came in the semiconductor sector. Two firms, Taiwan Semiconductor (TSM) and Samsung Electronics, controlled 70% of the world's manufacturing capacity in 2021.
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The folly of this strategy became apparent in 2021 as the pandemic began to subside. COVID-19 restrictions at shipping ports caused massive bottlenecks in the supply chain. Factories worldwide were crippled with chip shortages. Politicians everywhere began to talk about so-called technological sovereignty. Bipartisan legislation followed.
Globalization had gone awry and deglobalization gained traction.
The U.S. Congress passed the CHIPS Act and FABS Act, legislation worth $52 billion in new spending for domestic chip fabrication.
Plus, Europeans will spend $46 billion on their CHIPS Act. Korean legislators aim to attract $450 billion in private investment. Japan has set up subsidies for $4.4 billion. The Invest Taiwan Initiative is allocating tax credits to help secure additional land, water and electricity for chip fabricators. And the Chinese Integrated Circuit Industry Investment Fund will allocate tax breaks worth a combined $51.2 billion.
A huge amount of public capital is being deployed to ensure unobstructed, regional access to microchips. However, even with the new capacity, demand is likely to outstrip supply into 2030, according the ASML Investor Day presentation.
There is good reason for this. The world is changing fast, and semiconductors are integral to future infrastructure.
The Russian war in Ukraine is exploding energy costs. A scarcity of fossil fuels and environmental concerns are pushing world leaders to accelerate energy transition. This includes a faster ramp up of wind and solar power projects.
By 2030, 70% of new car sales are expected to be electric vehicles, up from approximately 15% in 2021. EVs use twice as many semiconductors as internal combustion engine vehicles. But that is only half of the story.
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EVs, and the charging infrastructure that is required, also use the entire gamut of chip architectures, from older 40nm chips found in electric actuators, to 16nm nodes found in communication gateways and infotainment, to the advanced 5nm chips used for real-time processing.
Now, let's take a look at a chart for the VanEck Vectors Semiconductor ETF (SMH), whose performance has far outpaced the S&P 500 over the past 10 years:
Click here to view full-sized image.
As you can see, SMH's performance (black line) shows a gain of 660% compared to the S&P 500 (red line), with only a 180% gain.
Analysts at McKinsey and Co. expect overall demand for chips in 2030 will reach a range of $1 trillion to $1.3 trillion, about double the current level.
Investors should expect a rebound in chip stocks in the coming months.
Gartner researchers believe automotive, datacenter and industrial applications will grow fastest during that time frame, with grow rates of 14%, 13% and 12%, respectively. The slowest part of the growth curve is PCs, the persistent focus of bearish semiconductor investors.
I'm not surprised that bearish voices have been able to distort the semiconductor story. Narratives, especially noisy, apocalyptic ones, drive stock prices.
It's easy to tell the story that the pandemic pulled forward PC demand, and now there is a glut of the chips that power those devices. However, this narrative misses the semiconductor megatrend: As more devices connect to networks, chip demand will only grow.
ASML executives should know. They are at ground zero, making the machines that make the chips.
Bottom line: Investors are getting the longer-term chip story all wrong. Near-term macroeconomic concerns aside, the outlook for the sector has never been brighter.
All my best,
Jon D. Markman
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