Semiconductors and the Impact on the Stock Market

Semiconductor Industry: An Overview

Semiconductors are special materials that conduct electricity but only under certain conditions, making them an essential component in modern electronics. They are found in a wide range of products, from smartphones and laptops to cars and medical devices. Semiconductors include microprocessors, memory modules, and integrated circuits, among other components.

The importance of semiconductors lies in their ability to process and transmit information, which has driven global innovation and made it a major industry in the global economy. Companies involved in semiconductor design, manufacture, and distribution are among the largest on global stock markets. Semiconductors remain critical to the functioning of modern electronics and help to enable new technologies such as artificial intelligence (AI) and the Internet of Things.

Key Takeaways

The semiconductor industry is critical to the functioning of modern electronics and is a major industry in the global economy, with companies involved in semiconductor design, manufacture, and distribution among the largest on global stock markets.
The industry has been facing a chip shortage due to disruptions in the supply chain caused by factors such as the COVID-19 pandemic, trade tensions, and shipping delays.
Despite the current problems, the future of the semiconductor industry remains bright, driven by increasing demand for new technologies such as artificial intelligence, the Internet of Things, and 5G networks.
The largest semiconductor makers in the world are U.S.-based Intel and Taiwan’s TSMC, and the top five countries that produce semiconductors are China, Japan, Taiwan, South Korea, and the United States.

Recently, there has been an unprecedented shortage of semiconductors caused by disruptions in the supply chain. Factors such as the COVID-19 pandemic, natural disasters, trade tensions, and shipping snarls have led to decreased production capacity. This shortage has affected many industries, including automakers, consumer electronics, and healthcare, leading to delayed product launches, reduced revenues, and higher prices.

Companies and governments are working to address these challenges by increasing production capacity, diversifying their supply chains, and investing in new technologies, but the effects of the shortage are likely to persist for some time before these measures take effect.

Current Situation of the Semiconductor Stock Market

The semiconductor industry has been facing a chip shortage that has been aggravated by the COVID-19 pandemic, which disrupted the supply chain and caused factories to shut down due to lockdowns and other public health measures around the world. Even as PC sales have slumped, overall demand for semiconductors of all stripes—from basic microcontrollers and memory chips to the most sophisticated high-performance processors—has grown in excess of producers’ capacity. Despite these current problems, the industry remains highly profitable.

Prior to the COVID-19 pandemic, the industry was already experiencing supply constraints because of increasing demand caused by the rise of new technologies such as artificial intelligence (AI), the Internet of Things (IoT), and 5G networks, which require more powerful and efficient semiconductors. The COVID-19 pandemic further reshaped global demand for semiconductors, as people shifted to remote work and online learning.

In addition to increased demand, the semiconductor industry has also been facing disruptions due to geopolitical risks and trade tensions. For example, in recent years, the U.S. government has placed export restrictions on Chinese semiconductor companies, citing concerns about intellectual property theft and national security risks.

One industry that was particularly affected by the semiconductor shortage is the automotive sector. The shortage has led to delayed production and reduced output, which has in turn led to a shortage of new cars and record-high prices for used cars. The shortage has also affected other industries, such as consumer electronics, healthcare, and industrial automation, among others.

The semiconductor industry itself, however, saw record profits and stock prices from 2020 through 2021. The price chart below depicts the price action of the VanEck Semiconductor Index ETF (SMH) from the third quarter (Q3) of 2018 through Q3 2023. Chip stocks slumped in 2022 due to multiple factors:

First, fears of a global recession and weaker consumer spending habits led to companies reducing expenditures for innovative semiconductor products across various markets, even as chipmakers invested billions in new fabrication plants to increase supply. Then, on Oct. 7, 2022, the U.S. Department of Commerce announced strict export restrictions on the sale of semiconductors and equipment to China, which could cost up to billions of dollars in revenue over the next few years for several struggling semiconductor firms. This announcement led to a further decline in semiconductor stocks into the first quarter of 2023.

The semiconductor sector, however, did recover through the second half of 2023. The performance was largely due to exposure to NVIDIA Corp. (NVDA), which is a leader in the growing GPU market for artificial intelligence applications. NVIDIA Corp. was the top contributor to SMH’s return in Q2 2023, followed by Broadcom Inc. (AVGO), which is a diversified chipmaker with strong positions in wireless, data center, and industrial markets.

Some of the key events that drove stock prices in the semiconductor sector this year were the global chip shortage that affected various industries, such as automotive, consumer electronics, and gaming; along with the rising demand for semiconductors in emerging technologies such as 5G, cloud computing, and artificial intelligence. These factors, along with the ongoing trade tensions between the United States and China, has created a supply-demand imbalance that increased the prices and margins of semiconductors, as well as the valuation of semiconductor companies.

The U.S. share of global semiconductor manufacturing capacity declined from 37% in 1990 to just 12% in 2021, while some 47% of the chips sold worldwide are designed in the U.S. Some warn that this disparity poses risks to American national security and the economy, which is why both industry insiders and politicians are calling for building semiconductor fabrications (fabs) domestically in the USA. Intel, GlobalFoundries, TSMC, Samsung Foundry, and Texas Instruments are all building new production facilities in the U.S. that will cost more than $70 billion by 2025.

The U.S. government recently approved the Creating Helping Incentives to Produce Semiconductors (CHIPS) and Science Act, which will pump more than $52 billion into new U.S.-based chip fabs and provide fresh tax incentives.

U.S.-China Semiconductor Tensions

Tensions between the U.S. and China in the semiconductor space stem from U.S. efforts to curb China’s technological advances, fearing potential military applications, while also aspiring to rejuvenate domestic chip manufacturing.

The Biden administration’s recent export restrictions on China aim to halt the transfer of high-end American artificial intelligence chips and chipmaking tools to China. Simultaneously, the U.S. is offering financial incentives to non-Chinese chip manufacturers to either initiate or broaden their operations within the U.S.

This dual strategy not only underscores the pivotal role of semiconductor technology in U.S. economic and national security agendas, but also signals a shift in maintaining a substantial lead over China in chip design and manufacturing due to the vast applications of semiconductor chips with national security implications.

Forecast for 2024

As the chart above shows, the semiconductor industry was able to shake off a steep sell-off in 2022 to recover into 2023. According to analysts, the forecast for the semiconductor sector into 2024 is positive as well, as the industry is expected to continue to recover from the downturn in 2022 and grow in all segments.

Some of the factors that are expected to drive this growth are:

The resolution of the global chip shortage that will increase the supply and demand of semiconductors in various industries, such as automotive, consumer electronics, and gaming.
Continued demand for semiconductors in emerging technologies, such as 5G, cloud computing, and artificial intelligence, which will require more advanced and efficient chips.
The easing of trade tensions between the U.S. and China that will improve the supply chain and market access for some semiconductor companies.
Continued grants and other incentives by the U.S. government to bolster domestic chip production.
Consolidation and innovation activities in the sector, such as mergers and acquisitions, partnerships, and new product launches, which will enhance the competitiveness and profitability of some semiconductor companies.

Top Semiconductor Stocks and ETFs

As of Q3 2023, the largest semiconductor stocks by revenue were:

TSMC/Taiwan Semiconductor Manufacturing Co. Ltd. (TSM)—$17 trillion
Samsung ()—$ 204.9 billion
Intel Corp. (INTC)—$52.9 billion
Qualcomm Inc. (QCOM)—$35.8 billion
Broadcom Inc. (AVGO)—$35.5 billion
NVIDIA Corp. (NVDA)—$32.7 billion
ASML Holding N.V. (ASML)—$28.8 billion
Applied Materials (AMAT)—$26.5 billion
SK Hynix ()—$23.2 billion
Advanced Micro Devices Inc. (AMD)—$22.1 billion

Samsung is another important semiconductor company based in South Korea, but the above companies are pure-play semiconductors, while Samsung is a large integrated corporation that has different revenue-producing streams in addition to chip design and fabrication.

In addition to individual tech stocks, there are some exchange-traded funds (ETFs) that track the semiconductor sector. These include:

VanEck Semiconductor ETF (SMH)
iShares Semiconductor ETF (SOXX)
SPDR S&P Semiconductor ETF (XSD)
Invesco Semiconductors ETF (PSI)
First Trust Nasdaq Semiconductor ETF (FTXL)

Who Is Leading the Semiconductor Industry?

The largest semiconductor makers in the world are South Korea’s Samsung, U.S.-based Intel, and Taiwan’s TSMC.

The top five countries that produce semiconductors are China, Japan, Taiwan, South Korea, and the United States.

Why Invest in Semiconductors?

Investors may want to consider adding semiconductor stocks or ETFs to a diversified portfolio. The semiconductor industry is a crucial component of the technology sector and plays a significant role in powering many devices, including computers, smartphones, and other electronic devices.

As technology continues to advance, demand for semiconductors is likely to continue to grow, driving revenue and profits for semiconductor companies. A focus on innovation can lead to significant long-term growth potential for companies that are successful in developing new and cutting-edge products.

What Is the Future of Semiconductors?

Despite recent challenges, the semiconductor industry is expected to grow over the long term, driven by continued demand for electronics and technological advancements. The semiconductor industry itself is highly innovative, and chips have become exponentially more efficient and powerful over the past decades.

Since they are so ubiquitous, it seems that semiconductors will not be replaced anytime soon, although they will continue to improve. Additionally, the discovery and application of new materials like graphene (a novel form of carbon), the advent of quantum computing, and the use of photonic circuits may be used alongside traditional semiconductors.

The Bottom Line

The semiconductor sector has a significant influence on the stock market, as it accounts for a large portion of the technology sector and is critical to many industries such as automotive, healthcare, and telecommunications. Disruptions in the industry, such as after the COVID-19 pandemic, can be felt throughout other sectors of the economy.

The performance of semiconductor stocks can impact the broader market, as seen in 2021, when the sector hit record highs, and 2022, when the sector subsequently experienced significant losses, contributing to a measurable drag on the overall market. As the chip market is expected to continue growing, investors will continue to closely monitor the performance of companies in this sector.

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