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Short this ETF: Semiconductors Flatline

Posted January 8, 2008
‘Why do companies keep choosing to IPO now, despite tough pricing conditions? Because there is a predominant fear that market conditions will worsen in the coming months.’ — Loretta O’Connor

by Loretta O’Connor (from the TFN financial video 60-Second Buzz filmed earlier this month).

Baltimore — (TFN): The Fed, of course, gets the top headlines this week, but there were also some less flashy announcements in the form of IPOs.

Take a look at what happened to semiconductor company Entropic Communications Inc. ENTR cut both the number of shares on offer and the proposed price range, and then sold shares at the bottom of the new range, around $6.

So why do companies keep choosing to IPO now, despite tough pricing conditions? Because there is a predominant fear that market conditions will worsen in the coming months.

For the tech market, it saw a nice rally back in August, but tech stocks remain volatile and will most likely suffer more than other sectors if the economy continues to deteriorate. Major firms like IDC and Forrester Research will cut technology budgets from 6.5% to 5.1% in 2008. A survey of CIOs by Goldman Sachs found “decelerating spending growth” by their departments.

No time to read? Watch the financial video…

Also, oil is again on the rise. Technology stocks generally benefit from a drop in crude prices on a fundamental basis. This connection has to do with institutions investing a percentage of their assets in high beta stocks, so when they sell off energy, they replace it with technology, and vice versa. In an energy boom, the institutions rotate out those tech stocks.

Oil prices matter to semiconductor companies, according to the CEO of National Semiconductor, because of the enormous amount of energy it takes to run data centers and global networks.

I would recommend buying puts on shares of the ETF comprised of the semiconductor index, ticker SMH.

Down from a September high of 38 to a recent low of 31 (and down from 40, or about 25%, since the start of the year), the Semiconductor ETF dropped off in large part because of overproduction by makers like Samsung and Micron who churned out almost double the amount of memory in 2006.

However, the demand was wildly overestimated.

The SMH chart looks like it will hit a short-term snapback to 34, or about 10%, lifted by key component stocks. But despite the tech industry having a place in both private and corporate life, semiconductors are not expected to make a recovery until late 2008 at the earliest.

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