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As recession gripped the global economy in 2008, nearly all sectors and regions took a hit. But as is usually the case, not all areas were impacted equally, as certain corners of the market delivered much worse results than others. Now, those industries that were hit the hardest on the way down have become the biggest gainers during the subsequent recovery, further proving the wisdom of the Buffett mantra “be fearful when others are greedy and greedy when others are fearful.”

Semiconductor companies took it on the chin on the way down, as consumers slashed discretionary spending and businesses began aggressively delaying any expenses that could be pushed off until the economic clouds cleared. But it now appears that the industry has emerged from the downturn, perhaps poised to surge in 2010.

The Semiconductor Industry Association reported that global sales rose 3.7% in November, marking the ninth consecutive monthly uptick in demand. The $22.6 billion for the month represented an 8.5% increase from November 2008. SIA president George Scalise attributed the turnaround to the launch of the Windows 7 operating system and strong demand for LCD televisions, noting that cell phone sales are coming in at roughly the same level as last year.

The Americas experienced the biggest year-over-year increase (26%), while Asia-Pacific grew by 13%. The Asia-Pacific region now accounts for slightly more than half of global chip sales.

2010 Outlook

Despite delivering some of the most impressive returns of 2009, many semiconductor ETFs remain well below pre-recession levels. But a continued rise towards previous highs is far from certain. The SIA is predicting that full-year 2009 sales will come in about 12% below 2008, making it one of the worst years on record for the industry. Global sales are expected to grow by about 10% in 2010 and another 8% in 2011, gradually clawing back to pre-2008 levels.

The industry’s performance in 2010 will likely be linked to demand for high-tech gadgets, which now account for a larger portion of the total market than they did in previous years. “PCs and wireless phones now account for approximately 60% of demand for semiconductors, and those products are expected to drive increased sales in the new year,” writes Jeff Dorsch. “Apple and Google already have scheduled highly anticipated press conferences in January — Apple to introduce a widely rumored tablet computer and Google to unveil its own phone design using Android.”

But there’s another, far less sexier side to the semiconductor industry that will be just as important to the industry. Businesses have aggressive in slashing tech budgets, meaning that the “tech refresh cycle” that traditionally provided a somewhat regular stream of income has been put off for longer than could have reasonably been expected. And while aging equipment must be replaced at some point, gauging the size of the next wave is challenging. Some seven million jobs have been lost since the recession began, which translates into much smaller infrastructure needs for a lot of companies. So while businesses may begin to loosen the purse strings this year, spending on semiconductor-intensive products won’t fully recover for a long time.

Semiconductor ETFs In Focus

ETF investors looking to gain exposure to the semiconductor industry, there are a handful of options, reflecting the granularity of an increasingly-developed ETF industry. While these funds are similar from a high level, there are some significant discrepancies between components, expenses, and strategies. For more head-to-head comparisons of ETF options, sign up for our free ETF newsletter.

  • Merrill Lynch Semiconductors HOLRDS (NYSEARCA:SMH): Like most HOLDRs products, SMH is concentrated in only a handful of stocks (18 to be exact). More than half of this fund’s holdings are in Intel Corporation, Texas Instruments, and Applied Materials.

SMH

  • SPDR S&P Semiconductor ETF (NYSEARCA:XSD): This ETF was one of the best performers in 2009, gaining nearly 100% despite huge cuts in production and layoffs by semiconductor firms. Although it invests in only 27 stocks, XSD offers significantly more depth of exposure than SMH because it is linked to an equal-weighted index. No one company accounts for more than 5% of XSD. This ETF features an expense ratio of 0.35%.

XSD

  • PowerShares Dynamic Semiconductors Portfolio (NYSEARCA:PSI): This ETF is designed to track the Dynamic Semiconductors Intellidex, a benchmark that evaluates potential components on a variety of investment criteria, including fundamental growth, stock valuation, and investment timeliness (see more on “intelligent” indexing in this special feature). PSI charges an expense ratio of 0.60%.

PSI

Disclosure: No positions at time of writing.

Source: Semiconductor ETFs: Back on Track