Inventory levels remain high. Consumer demand looks shaky. Inflation weights on input costs. Earnings are tepid. So of course semiconductor stocks are up strongly this year. The Philadelphia Semiconductor Index (SOX) is up 40% despite a still lingering inventory cycle and some very mixed industry conditions. Why the disconnect?
In part the answer is “AI”, or more specifically Nvidia. That company reported one of the largest upside to earnings estimates that we have ever seen for a company of its size. Those results are based largely on their very strong position in AI semis. Nonetheless, their results were so good they seem to have dragged many of their peers upwards with them, even if those peers do not enjoy the same level of AI success.
The chart below paints the picture pretty clearly showing the big four semis names versus the SOX. The spike in Nvidia’s share price in the days following its blow-out earnings is clear, but also note the similar jump in AMD and even Intel. AI may wipe out humanity someday, but it is really helping semis stocks right now.
That being said, the gains from AI are not widespread. Note Qualcomm’s stock is actually down for the year. As we pointed out last week, Qualcomm has some solid AI capabilities, but lacks a clear way to monetize that, and no recognition from the Street for those capabilities. Even Mediatek, which is fat behind in AI, enjoyed the recent Nvidia rally.
Beyond AI, there are some other noteworthy developments in the sector. As we have noted, the inventory cycle has played out differently for different sectors of the industry. The analog players are just now entering their inventory corrections. The Street seems to agree with this. Analog semis, as shown below, have all underperformed the SOX this year, and definitely did not participate in the AI run last week. This comes despite some still robust earnings from the sector and a very positive story around China Electric Vehicles.
By far the most common question we get from investors now is how much longer will the cycle run and when will earnings start to improve (ex-Nvidia). On this front we are somewhat cautious. A lot will depend on consumer buying which remains an open question. For smartphones, the sector’s companies all talked about a recovery in the second half of this year. But it was hard for us to discern how much of that outlook was based on orders and how much on hope. There were rumblings this week from Asia that some in the sector were pushing out their expectations for recovery into next year. Also it is worth noting that everyone attending the Computex conference last week talked almost exclusively about Nvidia and AI, no one seemed to have much to say about PC demand. The other big question is about data center spending. Here the AI story still holds as the hyperscalers all rush to build out their Nvidia H100 systems they are going to need all the other chips (e.g. memory, power management) for their servers. So data center demand likely holds up fairly well, but only for those with a real connection to AI.