Global Market Comments
May 15, 2019
Fiat Lux
(SPECIAL CHINA ISSUE)
Featured Trade:
(WHY CHINA IS DRIVING UP THE VALUE OF YOUR TECH STOCKS)
(QCOM), (AVGO), (AMD), (MSFT), (GOOGL), (AAPL), (INTC), (LSCC)
Global Market Comments
May 15, 2019
Fiat Lux
(SPECIAL CHINA ISSUE)
Featured Trade:
(WHY CHINA IS DRIVING UP THE VALUE OF YOUR TECH STOCKS)
(QCOM), (AVGO), (AMD), (MSFT), (GOOGL), (AAPL), (INTC), (LSCC)
Reduce the supply on any commodity and the price goes up. Such is dictated by the immutable laws of supply and demand.
This logic applies to technology stocks as well as any other asset. And the demand for American tech stocks has gone global.
Who is pursuing American technology more than any other? That would be China.
Ray Dalio, founder and chairman of hedge fund Bridgewater Associates, described the first punch thrown in an escalating trade war as a “tragedy,” although an avoidable one.
Emotions aside, the REAL dispute is not over steel, aluminum, which have a minimal effect of the US economy, but rather about technology, technology, and more technology.
China and the U.S. are the two players in the quest for global tech power and the winner will forge the future of technology to become chieftain of global trade.
Technology also is the means by which China oversees its population and curbs negative human elements such as crime, which increasingly is carried out through online hackers.
China is far more anxious about domestic protest than overseas bickering which is reflected in a 20% higher internal security budget than its entire national security budget.
You guessed it: The cost is predominantly and almost entirely in the form of technology, including CCTVs, security algorithms, tracking devices, voice rendering software, monitoring of social media accounts, facial recognition, and cloud operation and maintenance for its database of 1.3 billion profiles that must be continuously updated.
If all this sounds like George Orwell’s “1984”, you’d be right. The securitization of China will improve with enhanced technology.
Last year, China’s communist party issued AI 2.0. This elaborate blueprint placed technology at the top of the list as strategic to national security. China’s grand ambition, as per China’s ruling State Council, is to cement itself as “the world’s primary AI innovation center” by 2030.
It will gain the first-mover advantage to position its academia, military and civilian areas of life. Centrally planned governments have a knack for pushing through legislation, culminating with Beijing betting the ranch on AI 2.0.
China possesses legions of engineers, however many of them lack common sense.
Silicon Valley has the talent, but a severe shortage of coders and engineers has left even fewer scraps on which China’s big tech can shower money.
Attempting to lure Silicon Valley’s best and brightest also is a moot point considering the distaste of operating within China’s great firewall.
In 2013, former vice president and product spokesperson of Google’s Android division, Hugo Barra, was poached by Xiaomi, China’s most influential mobile phone company.
This audacious move was lauded and showed China’s supreme ability to attract Silicon Valley’s top guns. After 3 years of toiling on the mainland, Barra admitted that living and working in Beijing had “taken a huge toll on my life and started affecting my health.” The experiment promptly halted, and no other Silicon Valley name has tested Chinese waters since.
Back to the drawing board for the Middle Kingdom…
China then turned to lustful shopping sprees of anything tech in any developed country.
Midea Group of China bought Kuka AG, the crown jewel of German robotics, for $3.9 billion in 2016. Midea then cut German staff, extracted the expertise, replaced management with Chinese nationals, then transferred R&D centers and production to China.
The strategy proved effective until Fujian Grand Chip was blocked from buying Aixtron Semiconductors of Germany on the recommendation of CFIUS (Committee on Foreign Investment in the United States).
In 2017, America’s Committee on Foreign Investment and Security (CFIUS), which reviews foreign takeovers of US tech companies, was busy refusing the sale of Lattice Semiconductor, headquartered in Portland, Ore., and since has been a staunch blockade of foreign takeovers.
CFIUS again in 2018 put in its two cents in with Broadcom’s (AVGO) attempted hostile takeover of Qualcomm (QCOM) and questioned its threat to national security.
All these shenanigans confirm America’s new policy of nurturing domestic tech innovation and its valuable leadership status.
Broadcom, a Singapore-based company led by ethnic Chinese Malaysian Hock Tan, plans to move the company to Delaware, once approved by shareholders, as a way to skirt around the regulatory issues.
Microsoft (MSFT) and Alphabet (GOOGL) are firmly against this merger as it will bring Broadcom intimately into Apple’s (APPL) orbit. Broadcom supplies crucial chips for Apple’s iPads and iPhones.
Qualcomm will equip Microsoft’s brand-new Windows 10 laptops with Snapdragon 835 chips. AMD (AMD) and Intel (INTC) lost out on this deal, and Qualcomm and Microsoft could transform into a powerful pair.
ARM, part of the Softbank Vision Fund, is providing the architecture on which Qualcomm’s chips will be based. Naturally, Microsoft and Google view an independent operating Qualcomm as healthier for their businesses.
The demand for Qualcomm products does not stop there. Qualcomm is famous for spending heavily on R&D — higher than industry peers by a substantial margin. The R&D effort reappears in Qualcomm products, and Qualcomm charges a premium for its patent royalties in 3G and 4G devices.
The steep pricing has been a point of friction leading to numerous lawsuits such as the $975 million charged in 2015 by China’s National Development and Reform Commission (NDRC) which found that Qualcomm violated anti-trust laws.
Hock Tan has an infamous reputation as a strongman who strips company overhead to the bare bones and runs an ultra-lean ship benefitting shareholders in the short term.
CFIUS regulators have concerns with this typical private equity strategy that would strip capabilities in developing 5G technology from Qualcomm long term. 5G is the technology that will tie AI and chip companies together in the next leg up in tech growth.
Robotic and autonomous vehicle growth is dependent on this next generation of technology. Hollowing out CAPEX and crushing the R&D budget is seriously damaging to Qualcomm’s vision and hampers America’s crusade to be the undisputed torchbearer in revolutionary technology.
CFIUS’s review of Broadcom and Qualcomm is a warning shot to China. Since Lattice Semiconductor (LSCC) and Moneygram (MGI) were out of the hands of foreign buyers, China now must find a new way to acquire the expertise to compete with America.
Only China has the cash hoard to take a stand against American competition. Europe has been overrun by American FANGs and is solidified by the first mover advantage.
Shielding Qualcomm from competition empowers the chip industry and enriches Qualcomm’s profile. Chips are crucial to the hyper-accelerating growth needed to stay at the top of the food chain.
Implicitly sheltering Qualcomm as too important to the system is an ink-drenched stamp of approval from the American government. Chip companies now have obtained insulation along with the mighty FANGs. This comes on the heels of Goldman Sachs (GS) reporting a lack of industry supply for DRAM chips, causing exorbitant pricing and pushing up semiconductor companies’ shares.
All the defensive posturing has forced the White House to reveal its cards to Beijing. The unmitigated support displayed by CFIUS is extremely bullish for semiconductor companies and has been entrenched under the stock price.
It is likely the hostile takeover will flounder, and Hock Tan will attempt another round of showmanship after Broadcom relocates to Delaware as an official American company paying American corporate tax. After all, Tan did graduate from MIT and is an American citizen.
The chip companies are going through another intense round of consolidation as AMD (AMD) was the subject of another takeover rumor which lifted the stock. AMD is the only major competitor with NVIDIA (NVDA) in the GPU segment.
The cash repatriation has created liquid buyers with a limited amount of quality chip companies. Qualcomm is a firm buy, and investors can thank Broadcom for showing the world the supreme value of Qualcomm and how integral this chip stalwart is to America’s economic system.
Mad Hedge Technology Letter
November 13, 2018
Fiat Lux
Featured Trade:
(NO BIWEEKLY STRATEGY WEBINAR FOR WEDNESDAY NOVEMBER 14)
(WHY I HATE CHIP STOCKS)
(AAPL), (CY), (TXN), (LRCX), (KLAC), (LITE), (QCOM), (MU), (SWKS), (LSCC)
Now that the midterm elections are behind us, Congress will be gridlocked for the next two years portending well for tech stocks as a whole.
However, the gridlock will exacerbate negative sentiment in one small group of technology – the semiconductor chip sector.
I have been staunchly bearish on this cohort since the outset of the trade logjam with China and I recommend readers to avoid these stocks like the plague.
The split Congress could fuel an even more rigid stance towards the complicated tech situation, further clamping down on foreign IP theft and technological forced transfers.
Either way, there is no end in sight and as this administration is concretely in place for the next two years, doubling down on foreign policy wins could be the Republican party’s path to victory heading into the 2020 election.
This could mean the rhetoric towards China could ratchet up a few levels.
Soon enough, the tariffs levied on Chinese imports is set to increase to 25% in January.
Even before January, a planned meeting between Trump and Chairman Xi in Buenos Aires on Nov. 29 will take place and is creating a swirling tornado of uncertainty around chip sentiment that is on tenterhooks.
Any chance to resuscitate the sentiment in the industry could come and go with another gut-churning leg down in chip shares.
Unfortunately, the sword of Damocles hanging over the chip sector could drop in 2019 slashing profit margins, revenue, and damaging the all-important guidance.
Even if individual chip companies determine that the trade friction is too much to stomach, it would be expensive and lengthy to transfer an entire supply chain to Vietnam or Indonesia, hitting current R&D budgets and damaging future innovation affecting the pipeline of fresh products.
Time is not a friend to the chip sector.
If the China leveraged chip companies were to wait out this trade war, they risk further being enveloped into the eye of the trade storm if no quick agreements can be made.
They might have to wait a while as Beijing views waiting out Trump and dealing with the next administration in charge as the ideal option.
Chairman Xi conveniently removed term limits in the last congress, meaning he is in his job until death which could be another 40 years or so.
That is the time horizon the Chinese are playing with.
The timing couldn’t have been worse for the chip sector after a slew of weak guidance from upper management painted a downbeat picture for the sector as we inch towards 2019.
Texas Instruments (TXN) Chief Executive Rich Templeton started off his earnings report admitting, “demand for our products slowed across most markets.”
He later admitted that the semiconductor market is grappling with an imminent “softer” market.
Following up a growing chorus of chip executives flashing dangerous warnings signs, Lattice Semiconductors (LSCC) lamented that it was seeing slowness in the industrial and consumer markets in Asia as a result of macroeconomic conditions and tariffs.
Cypress Semiconductor (CY) also chimed in saying it was coping with “softness across the board.”
Making matters worse, Beijing has been showering capital on the local chip sector aimed at nurturing and developing Chinese chip companies poised to compete on the global stage.
Recently, Chinese state-backed semiconductor maker Fujian Jinhua Integrated Circuit was indicted by the U.S. Justice Department for industrial espionage.
The company allegedly stole trade secrets from Boise-based Micron (MU).
Micron could now become the first piece of collateral damage to the snarky trade war threatening huge swaths of American chip company's revenue.
And with the affected American chip companies waded in a quagmire, and chip market softness on the near horizon, semiconductor equipment firms have borne a good amount of the damage this year with Applied Materials Inc (AMAT), KLA-Tencor Corp (KLAC), and Lam Research Corp (LRCX) getting hammered.
Chips tied to Apple’s (AAPL) iPhone are also in for a drubbing with Apple suddenly announcing in their most recent report they would stop offering the unit sales of iPhones, creating more uncertainty around units sold for a massive end-market for global chip companies, adding to the swirling uncertainties overall Chinese chip revenue face.
Apple proxy chip stocks who lean on Apple for a big chunk of revenue such as Skyworks Solutions (SWKS) are getting crushed.
Skyworks was downgraded last week by Citigroup based on underperforming iPhone XR sales.
The rapid rush of chip downgrades has been fast and furious.
Skyworks will have pockets of strength when 5G is fully rolled out because they will supply critical components installed in this new technology for the new era of internet speed and performance.
But that pocket of strength is not now and will not happen tomorrow.
It’s time to duck out of Skyworks and I have been convincingly downbeat on this particular name since the inception of the trade war.
Today crawled in the next batch up negative chip news from Lumentum Holdings (LITE) who supplies 3D chips for Apple iPhone's facial recognition system.
Management reported that sales would be $20 million lower than originally forecasted because of a sudden reduction in shipments from an unnamed customer.
Another ongoing headache is the Qualcomm (QCOM) versus Apple marriage or divorce, depending on how you look at it.
They have been mired in a prolonged court case against each other, and Qualcomm’s share price has been dismal as of late.
Qualcomm recorded zero licensing revenue in the quarter from Apple who is withholding royalty payments from Qualcomm in a dispute over the company's licensing practices.
The move damaged quarterly licensing sales sliding 6% to $1.14 billion.
Qualcomm has lashed back at Apple pointing the finger at Apple for transferring its intellectual property to Intel (INTC) who is supplying chips for new-model iPhones which is possibly part of the reason they lost this contract.
Losing the iPhone contract to Intel is the main factor in Qualcomm expecting modem chip shipments to decline 22% to about 185 million units.
The fight has no end in sight but like Skyworks Solution, Qualcomm is on the forefront of the 5G revolution and provides a silver lining to embattled revenue growth that has been dragged down with the China mess.
At the end of the day, companies have less resistance when they aren’t belligerently brawling with their biggest purchasers.
Biting the hand that feeds you is a poor strategy that cuts across any industry.
Avoid chip companies for the short term and wait for sentiment to reverse course.
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