Just as the Space Race was fueled by the Cold War, the US-China trade conflict is driving a new tech race. This tech race sounds like it would be good for innovation, but it is isolating both globalized economies. This lack of collaboration and use of each of these global powers’ core competencies will likely inhibit the full potential of future innovation and limit firms’ addressable markets.
This US-China trade dispute is having rippling long-term effects on the tech world. Technology companies became a focus in the conflict when the US decided to blacklist China’s tech giant Huawei, the largest telecom equipment maker in the world. The US ban on Huawei equipment was for national security issues, but the impact has disseminated across the entire tech industry.
My biggest concern about this technological friction is its effect on US chipmakers who have all seen an uptick in share price due to strong demand expectations over the next few of years. The market is largely overlooking the renewed sense of nationalism that has been instilled in the Chinese economy.
China is the largest chip market in the world, making up almost half the global demand and is nearly 4 times the volume of North America, according to recent WSJ article. Not only is it the biggest chip market, but it is also the fastest-growing. This wave of nationalism has caused an explosion of Chinese semiconductor firms that are attempting to replace US chipmakers.
Have US Chip Producers Run Up Without Regard?
Semiconductor stocks have been on a tear since the beginning of June as demand concerns eased. The most-traded semiconductor ETF, SOXX SOXX, has run up almost 50% in that time frame. These demand expectations may be overstated with the largest chip market in the world looking internally to meet its demand.
Earnings season for chip companies is around the corner, and this could spell trouble for this space across the board. Qualcomm QCOM, Broadcom AVGO, and Micron MU are the most exposed to China, with more than 50% of their revenue being driven by this country. All chipmakers have some level of exposure to this economic giant, and its latest nationalist movement in tech will likely have lasting impacts on the long term potentials of these US companies.
Look for management guidance in the upcoming earnings reports, for how they expect the US-China landscape to effect long-term revenues. There could be a short-term pullback in semi stocks, considering how much has been priced in the past 7 months.
As a long-term chip investor, I am looking for companies with a product that has substantial barriers to entry and a definite competitive advantage. Nvidia NVDA fits this profile with its state of the art GPUs having no close competitor in data centers and the development of AI.
I would stay away from US chip stocks with products that are easily replicated because China will have no issue commoditizing these types of chips. China’s supply chain shift to domestic chips will take years, but it will undoubtedly have a negative impact on US semiconductor stocks with low barriers to entry and those that are unable to keep up with the curve.
As a short to medium-term investor, I may be wary of putting too much weight in semi’s as they have already had quite a bit of growth priced in. The real implications of Chinese companies’ locally sourcing chips will show their true colors in 2020. Chinese firms are racing to become the world tech suppliers, and the government has no issues subsidizing this growth for accelerated results.
Keep your ears and eyes peeled in this upcoming earnings season for clues for who will be the winners and losers of the US-China Tech Race.
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