The Future of Computer Chips

The Future of Computer Chips

  01 Feb 2019

Earnings reports are ratcheting up this week and the semiconductor industry is in the spotlight more than any other. By the end of next week, we will have gotten results from six of the top 10 holdings in the VanEck Vectors Semiconductor ETF (NYSE: SMH).

The earliest results are already in with Lam Research (Nasdaq: LRCX), Texas Instruments (Nasdaq: TXN), and Xilinx (Nasdaq: XLNX) all reporting on Wednesday evening. Lam and Xilinx beat both top and bottom line estimates while Texas Instruments beat its EPS estimates.

The reaction by investors to the results is what really matters because it tells us whether investors are encouraged or worried. Based on the jump in chip stocks, investors are very encouraged. At midday on Thursday, Texas Instruments was up over 7%, Lam Research was up 15%, and Xilinx was up almost 20%. The SMH that I mentioned above was up over 6%.

What is really interesting is that the overall market results were somewhat mixed as the China trade talks were weighing on the market. The S&P was up 0.2% at midday and the Nasdaq was up 0.63% and it is heavily influenced by the chip sector.

There is a long way to go in the earnings season, but the chip sector was one of the lagging industries in 2018 with the SMH losing 9.05%. The S&P was down 6.24% on the year and the Nasdaq lost 3.88% comparatively. If the majority of the other members of the chip sector can post similar results to the ones we have seen already, the sector may have turned itself around.

One thing that has been weighing heavily on the chip sector is the trade war with China. Concerns about declining demand, especially from the mobile phone segment of the sector, has investors concerned about the outlooks offered by manufacturers.

The sector is also at the center of the trade war along with the software industry. The U.S. is pressing China to take greater steps toward protecting intellectual property rights and semiconductor companies are at the heart of that demand. China has countered the demands from the U.S. government by restricting or canceling cooperative agreements between Chinese companies and U.S. companies.

Looking at a chart of the SMH, we see that the move on Thursday has allowed the ETF to break out of a downward trend. The highs from October and December had formed a trend line to define the trend, but the jump on Thursday moved the SMH above that trend line.

The fund did move above the trendline late last week, but fell back below it on Tuesday and Wednesday. This could still be a fake breakout, but if Intel and the other big chip companies come in with similar results to the ones we have seen already, we could see the chip sector help reverse the downward trend in tech stocks.

There are far more earnings results to be released than the ones that have already been released, so I would recommend some caution before diving in head first. We will hear from Apple and Microsoft next week and those are still heavy hitters in the tech sector.

I would say we are in the second inning of a nine inning game when it comes to earnings. We may be in the lead right now, but it isn’t time to declare victory over the bear market. There are still a number of factors weighing on the market and there are still technical resistance levels the market will need to fight through.

I have expressed my concerns about the market and the economy in a number of articles on Bull Market Rodeo. The early results from the chip sector are encouraging, but it isn’t enough to overcome the concerns about the effects of the trade war and the government shutdown.