Investing in semiconductor stocks has always been a dodgy proposition. Long-term investors may sometimes feel that flipping a coin is just as likely to yield good results as pouring over fundamentals, reading earnings reports or studying charts.

The chip industry is defined by several key challenges, challenges like changing technology standards & patterns, long lead times for new products, low-cost competition and long-term commoditization through falling prices and squeezed margins.

IN PICTURES: 20 Tools For Building Up Your Portfolio

Intel - Follow the Leader
Take the heavy hitter as a prime example. Intel Corp (Nasdaq:INTC) is without a doubt the most successful chip company in history, yet even Intel typically sees net earnings fall more than 60% during recessions. While INTC shares are up over 50% from the March lows, they're still flat to down for investors that have been around since 2002, highlighting how truly difficult it is to carve a stable, sustainable business model around silicon.

There are some good rays on the horizon, however, as Intel's Q2-Q3 improvement was the best in decades, and the company raised sales guidance for the current quarter by $600 million, from $9.5 billion to $10.1 billion. More importantly to investors, gross margins are expanding rapidly; margins rose a full seven points to 58% in the latest quarter and are up 10 points from the low in the first quarter.

Expanding margins are key to any chip industry revival, and are one of the signposts bulls are using as they enter into long positions. As long as margins are expanding, any uptick in sales will have a swift and powerful impact on the bottom line.

Intel's medium-term prospects seem to be pegged on whether the much-proposed 2010 PC/IT upgrade cycle becomes a reality. If corporate IT spending picks up in 2010 and the new version of Windows Server is deemed a necessary upgrade, Intel will see solid sales of its new Nehalem processor. Meanwhile if Windows 7 gains traction and spurs a PC upgrade cycle, Intel will benefit on its mainstay PC business. If both occur, it could be a boon period for Intel shares in the next 18-24 months.

Intel also stands apart from its peers in terms of dividend action; the recently upped yield now stands at 3.1% and is higher than you'll find at nearly any tech company.

AMD Future Still Tenuous
One can hardly mention Intel without looking across at its smaller yet spunky rival AMD (NYSE:AMD). The AMD faithful are newly fueled by the recent $1.5 billion settlement from Intel and the agreement to a "cease-fire" with regards to ongoing patent infringement and antitrust issues.

While the most recent earnings report was solid, with a 18% sequential rise in sales, removing one-time events shows sales up only 1.8% sequentially and down 32% year-over-year. While shares are up over 200% from the March lows, AMD is still down over 75% since 2005 and seems doomed to the fates of a perennial second-place finisher. The balance sheet isn't as strong over at AMD, which has to look uphill to Intel in the PC arena and NVIDIA (Nasdaq:NVDA) in the graphics chip space.

Micron an Interesting Litmus Test
Few companies show the dangers of a commoditized industry more than Micron Technology (NYSE:MU), which manufactures RAM, DRAM, and other flash memory chips. Remember 10 years ago when a 16MB flash drive was actually expensive? These days you can get 20 times the storage capacity for what seems like 5% of the price.

Micron barely made it through the past few years at all, as the company has reported net losses since 2007. About the only thing that saved the company was that business got so bad several Asian competitors went belly-up, reducing the playing field for Micron.

If a broad PC upgrade cycle plays out, a big theme will be consumers looking for higher RAM requirements on their computers. After all, we've pretty much maxed out on hard drive storage; most people never hit that ceiling anymore. But RAM is always an issue, and will only become more so with Windows 7 and new software packages built around the new operating system. (For related reading, check out Technology Sector Funds.)

Marvell Riding Mobile Waves
Marvell Technology Group
(Nasdaq:MRVL) has a broad spectrum of products covering the enterprise, mobile, and design space. Marvell chips can be found in smartphones, eBook readers, and PCs, and because the company is a fabless chip producer, the balance sheet is much less weighty than for firms that produce in-house.

Marvel is set to report earnings on December 3, 2009, so this report will be an interesting one to watch as a possible harbinger for other tech firms. In late October, Marvel raised the midpoint of its revenue guidance by 10% to $770 million on the strength of new product lines and inventory rebuilding in the consumer space.

The Bottom Line
The general pattern is that there's about one good holding period for chip stocks during every new turn of the business cycle. The next 18 months could be just that time period for chip stocks, especially if the timing of economic rebound coincides with a new Windows OS that people actually decide to use.

Margins are sharply rising across the industry right now, and sales are starting to rise sequentially. To the always forward-looking stock market, that is a cocktail for success. Stick with the major players and you'll likely participate in 90% of the industry's upside without unduly exposing yourself to a bit player that may be one new tech change away from oblivion. (For more, see The Stages Of Industry Growth.)

Use the Investopedia Stock Simulator to trade the stocks mentioned in this stock analysis, risk free!

Related Articles
  1. Personal Finance

    A Day in the Life of an Equity Research Analyst

    What does an equity research analyst do on an everyday basis?
  2. Mutual Funds & ETFs

    ETF Analysis: PowerShares S&P 500 Downside Hedged

    Find out about the PowerShares S&P 500 Downside Hedged ETF, and learn detailed information about characteristics, suitability and recommendations of it.
  3. Mutual Funds & ETFs

    ETF Analysis: ProShares Large Cap Core Plus

    Learn information about the ProShares Large Cap Core Plus ETF, and explore detailed analysis of its characteristics, suitability and recommendations.
  4. Mutual Funds & ETFs

    ETF Analysis: iShares Core Growth Allocation

    Find out about the iShares Core Growth Allocation Fund, and learn detailed information about its characteristics, suitability and recommendations.
  5. Mutual Funds & ETFs

    ETF Analysis: iShares MSCI USA Minimum Volatility

    Learn about the iShares MSCI USA Minimum Volatility exchange-traded fund, which invests in low-volatility equities traded on the U.S. stock market.
  6. Stock Analysis

    Should You Follow Millionaires into This Sector?

    Millionaire investors—and those who follow them—should take another look at the current economic situation before making any more investment decisions.
  7. Professionals

    What to do During a Market Correction

    The market has corrected...now what? Here's what you should consider rather than panicking.
  8. Economics

    A Look at Greece’s Messy Fiscal Policy

    Investigate the muddy fiscal policy, tax problems, and inability to institute austerity that created the Greek crises in 2010 and 2015.
  9. Mutual Funds & ETFs

    ETF Analysis: Vanguard Mid-Cap Value

    Take an in-depth look at the Vanguard Mid-Cap Value ETF, one of the largest and most popular mid-cap funds in the U.S. equity space.
  10. Mutual Funds & ETFs

    ETF Analysis: Schwab US Broad Market

    Take an in-depth look at the Schwab U.S. Broad Market ETF, an incredibly low-cost fund based on a wide selection of the U.S. equity market.
RELATED TERMS
  1. Equity

    The value of an asset less the value of all liabilities on that ...
  2. The New Deal

    A series of domestic programs designed to help the United States ...
  3. Hard-To-Sell Asset

    An asset that is extremely difficult to dispose of either due ...
  4. Sucker Yield

    When an investor has essentially risked all of his capital for ...
  5. PT (Perseroan Terbatas)

    An acronym for Perseroan Terbatas, which is Limited Liability ...
  6. Ltd. (Limited)

    An abbreviation of "limited," Ltd. is a suffix that ...
RELATED FAQS
  1. What is the difference between called-up share capital and paid-up share capital?

    The difference between called-up share capital and paid-up share capital is investors have already paid in full for paid-up ... Read Full Answer >>
  2. Why would a corporation issue convertible bonds?

    A convertible bond represents a hybrid security that has bond and equity features; this type of bond allows the conversion ... Read Full Answer >>
  3. How does additional paid in capital affect retained earnings?

    Both additional paid-in capital and retained earnings are entries under the shareholders' equity section of a company's balance ... Read Full Answer >>
  4. What types of capital are not considered share capital?

    The money a business uses to fund operations or growth is called capital, and there are a number of capital sources available. ... Read Full Answer >>
  5. What is the difference between issued share capital and subscribed share capital?

    The difference between subscribed share capital and issued share capital is the former relates to the amount of stock for ... Read Full Answer >>
  6. How does the risk of investing in the industrial sector compare to the broader market?

    There is increased risk when investing in the industrial sector compared to the broader market due to high debt loads and ... Read Full Answer >>

You May Also Like

COMPANIES IN THIS ARTICLE
Trading Center
×

You are using adblocking software

Want access to all of Investopedia? Add us to your “whitelist”
so you'll never miss a feature!