Semiconductors: In the Face of Macro Risks

In the wake of the COVID–19 pandemic, the semiconductor industry has drawn a great deal of attention due to supply and demand imbalances, geopolitical tensions between the U.S., China and Taiwan Region, and renewed government investment. These themes have caused investors to pause and assess in order to understand where the risks and opportunities exist.

Semiconductors Were at the Center of COVID–19 Supply and Demand Imbalances

Several sectors have experienced significant disruption since the outbreak of COVID–19 began in 2020, but semiconductors (semis) have been particularly impacted. With the dramatic uptick in remote work and mobile communication amid the pandemic, demand for personal communication devices, computers, etc., outpaced semiconductor supply. On top of this, we saw increased consumer spending on automobiles, home electronics, and other semiconductor–laden products.

Fast forward two years, and we have seen the imbalance start to normalize. Increased Interest rates and economic inflation has slowed consumer spending on goods. Some of this has eased chip demand, but certain industries may take longer than others. Some analysts believe chip supply constraints will persist into 2023 at the earliest.

Why U.S.–China Geopolitical Tensions Impact Semiconductors

Second to supply constraints, the U.S.’s “One China” policy has highlighted new risks surrounding the semiconductor industry. The policy is a purposely ambiguous acknowledgment of China’s stance on the sovereignty of Taiwan Region. Taiwan Region is home to the largest semiconductor foundry Taiwan Semiconductor Co. (TSM), which produces microchips for the likes of Advanced Micro Devices (AMD), Nvidia and Apple, to name a few.

If China invades Taiwan Region to retake the island as part of the People's Republic of China, this could further disrupt the industry's largest chip manufacturer. Some analysts in the space believe the threat of this is minimal and that it would not affect their businesses, unless the actual TSM factories were invaded. Pat Gelsinger, Intel's CEO, doesn't expect China to move to seize Taiwan Region for another five years. Additionally, TSM Chairman Mark Liu commented that "nobody can control [Taiwan Semiconductor] by force," and that it would be "non–operable" if invaded due to its "sophisticated manufacturing facilities."¹

Reshoring to Improve Supply–Chain Resilience and National Security

Governments across the globe have increased investments in semiconductor manufacturing to bring more manufacturing to their respective countries. A big one is the U.S.'s CHIPS act, which aims to reshore chip manufacturing to assist American companies with supply chain issues. The act places incentives for current companies to build manufacturing facilities in the U.S. As a result, Intel is building a $20B plant in Columbus, OH, and TSM is building a $12B plant in North Phoenix. This investment will help to increase supply domestically and put less strain on American companies having trouble finding chips for their products.

Long–Term Prospects for Semiconductors Remain Despite Macro Risks

Although it's important to understand the risks associated with the semiconductor space, we believe there are still long–term opportunities. Recent volatility has presented much more attractive stock prices, and the current volatility has been driven more by headline risk rather than weakening demand or other structural issues within the industry. Strong continued demand for chips, coupled with an increase in domestic chip production from government incentives, should create less cyclicality within the semiconductor sector.