Value Line's Positivity Towards the Semi Industry is Misguided

We still think semiconductors are oversupplied and that the situation is getting worse. We are willing to debate the finer points of the argument, but we will also point out cases that disagree from time to time if they are well reasoned or simply difficult to refute. ValueLine gives an example of the latter with their positive rankings for semiconductors and semiconductor equipment.

Semiconductor Industry
Semiconductor Industry Commentary [pdf]
Semiconductor Industry Companies

The Semiconductor Industry remains ranked near the top of the Value Line universe for Timeliness. This largely reflects the group’s solid earnings gains and healthy stock price momentum in recent quarters. In fact, global semiconductor sales hit a record for the month of August, fueled by healthy economic conditions across the globe.

The direction of the chip market is very dependent on the health of the aggregate economy. Indeed, economic health affects consumer purchases as many silicon-dependent items are “discretionary” in nature, particularly gaming consoles, music devices and televisions. What’s more, the business sector is highly dependent on a healthy economic backdrop, as improved earnings tend to be necessary to ramp capital spending budgets. All of this being said, although we look for domestic GDP growth to slow a bit, we do not, under current conditions, expect a recession.

Semiconductor Capital Equipment Industry
Semiconductor Capital Equipment Industry Commentary [pdf]
Semiconductor Capital Equipment Industry Companies

The Semiconductor (Capital Equipment) Industry’s Timeliness ranking is up near the top of all the industries covered by The Value Line Investment Survey. This positive score reflects the fact that the industry is experiencing an improved demand environment in 2006, after a period of relatively soft demand in 2005. Semiconductor manufacturing companies are ordering new capital equipment to expand capacity to accommodate the upturn in industry demand.

Bookings for leading-edge technologies, such as 300 mm wafer production equipment and products that handle small-geometry (sub-100 nanometer) chip designs, are leading the recovery of the semiconductor equipment industry. Moreover, orders for older-technology 200 mm equipment are fairly healthy, since the technology represents a cost-efficient method of ramping up chip capacity with a faster production yield curve. Stock-price performance for the semiconductor equipment companies has the potential to be better in the fourth quarter of 2006 and the first quarter of 2007, based on the continued recovery in industry demand.

We can’t dispute that semiconductors and equipment have momentum. We just think that the momentum is peaking. We also think that the impact of the overall economy will be limited, except for the possibility of a consumer slowdown impacting high-end consumer electronics.

SMH 1-yr chart:

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