Chip Stocks Are In A Perfect Storm — Time To Sell Or Buy?

American chip makers have been in a perfect storm recently. It's formed by several headwinds like declines in PC sales and higher interest rates.

Declines in PC sales translate to lower demand for semiconductors and, therefore, lower sales for the semiconductor industry. For instance, AMD has seen a significant revenue and earnings shortfall due to declines in PC sales.

Sam Boughedda, an analyst for AskTraders.com, sees the declines in PC sales worsening as the U.S. economy heads to a recession. "Assessing current online demand trends, we can see PC-related searches continue to decline steadily," he told International Business Times in an email.

Higher interest rates make the future earnings of semiconductor companies less valuable when discounted to the present day. "This is the primary sentiment troubling high growth sectors, including technology," Kunal Sawhney, founder and chief executive of Kalkine, an independent equity research firm, told IBT. "And it has little to do with microeconomic elements like demand for a particular product or brand."

But there's another headwind: the strong dollar. It hammers overseas sales, another blow to the bottom line of chip makers with significant overseas sales.

"A strong dollar is undeniably weighing on U.S. tech stocks as market participants in this category are major exporters, and when the USD gains, global revenue of these companies falls in USD terms," Sawhney added.

In a recent survey, FactSet found that 50% of the S&P 500 member companies expect an earnings shortfall due to the higher dollar.

"Given the strengthening of the U.S. dollar in recent months (as indicated by the rise in the U.S. Dollar Index) and the 40% international revenue exposure of the S&P 500 overall, it is not surprising to see an increase in the number of (early-reporting) companies citing a negative impact to earnings, revenues or profit margins due to unfavorable foreign exchange rates," John Butters, vice president and senior analyst at FactSet, noted in a post on the company's blog.

Still, there's one more headwind: the U.S. ban on certain chip sales to China. It's adding to the chip makers' woes.

Wall Street has noticed all these headwinds driving the PHLX semiconductor index down 42% for the year.

Does it mean that markets have already factored in all the bad news? Unfortunately, it's hard to say, as none has a crystal bowl to see the future.

However, the perfect storm may not last forever. For instance, the U.S. dollar may begin losing ground if the U.S. economy gets into a severe recession. In addition, the ban on semiconductor sales to China may be lifted once the U.S. elections are over or the Russian-Ukraine war is easing.

In either case, investing in semiconductor stocks will regain its appeal for value investors, as the sector has strong "moats," barriers to entry. They allow semiconductor companies to deliver superior returns to their capital holders.

Still, Sawhney doesn't see the urgency for "bottom fishing" at this point. "Even if one feels that they are prudently doing bottom fishing, stock valuations might continue to hover at the same levels over the medium term, reducing any chances of near-term windfall capital gains," he said.

Disclosure: The author owns semiconductor stocks.