SMH: AI Optimism Has Gone Too Far

Summary

• The VanEck Semiconductor ETF now trades at double the price-to-free cash flow ratio of the S&P500 due to outperformance and surging capex costs.
• Even assuming 20% annual growth free cash flow growth over the next decade the SMH is still priced to deliver below par long-term returns.
• Current valuations are only likely to be justified if AI productivity gains can lift the declining US growth rate, which seems unlikely.
• The SMH is also highly exposed to China and would likely underperform in the event of rising geopolitical tensions between China and the US.

SweetBunFactory

After outperforming significantly over the past year, the VanEck Semiconductor ETF (NASDAQ:SMH)'s underlying index now has a market cap of $3.6trn, almost 10% of the entire S&P500, despite its share of sales and free cash flows being half this figure. Semiconductor manufacturers are

Analyst’s Disclosure: I/we have a beneficial short position in the shares of SMH either through stock ownership, options, or other derivatives. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.