Semiconductor stocks are not to be ignored. We’re not talking about a handful of stocks that make commoditized products and are low-margin producers. Due to evolutions in technology – technology that almost every industry now leans on – semiconductors are in a near-constant state of demand.
We go through ebbs and flows when it comes to shortages in the semiconductor space. However, I believe this industry acts as a bellwether for the economy. When we hit true contraction points in the economy, it’s felt in the semiconductor space. In that way, we can use the VanEck Semiconductor ETF (NASDAQ:SMH) as a sort of guide on the market.
As cyclical as the semiconductor space is, there are also many trends that are secular in nature. This is not a collection of automakers, a business that does well during strong economies and suffers greatly during recessions.
Semiconductor companies feed into secular businesses, including smartphones, cloud-computing, artificial intelligence and machine learning, datacenters, gaming, drones, supercomputing and so forth.
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While some areas may feel some pressure – like smartphones or automotive – firms with five- to 10-year outlooks or longer are not going to stop investing in the cloud or datacenters because of a short-term economic contraction.
Again, it’s not to say these companies are recession proof – they’re not – but there is underlying demand that will remain present in good times and bad.
Advanced Micro Devices, Inc.
Taiwan Semiconductor Manufacturing Company Limited
Semiconductor Stocks to Buy: Advanced Micro Devices (AMD)
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I love the second stock on this list, but Advanced Micro Devices (NASDAQ:AMD) is absolutely not a stock to ignore.
On May 3, the company delivered a top- and bottom-line earnings beat and better-than-expected guidance. CEO Lisa Su said the company is at a “significant inflection point,” after closing its deal for Xilinx and with plans to acquire Pensando.
What made all this possible is the robust improvement we’ve seen in the financials over the years. The company’s revenue continued to climb, but then so did its earnings and free cash flow. While AMD’s margins are not what Nvidia’s are, they have improved enough for AMD to significantly bolster its financial firepower.
That firepower was used to acquire Xilinx, another free-cash flow positive entity (free cash flow was north of $1 billion in its prior three years as a public company). AMD is on its way to dominance, it just needs time.
Can AMD become another version of Nvidia (NASDAQ:NVDA)? Put another way, is AMD a mini Nvidia now? That’s the hope from investors and it wouldn’t be odd to be long both names.
But keep in mind: While one is trying to become bigger (AMD), let’s consider that one is already a juggernaut.
Nvidia dominates in the fields listed earlier in the story – gaming, cloud-computing, datacenters, etc. – but it’s also a leader in autonomous driving, cryptocurrency, robotics, the metaverse and more.
The company commands powerful margins, as it blends hardware and software in its offerings. Specifically, it generates 65% gross profit margin and 32% net profit margin. Keep in mind, AMD generates net margins of just 18%.
That’s not a dig at AMD, either. Nvidia generates a higher net margin than all of the FAANG stocks. The best part? Despite being criminally conservative when it comes to estimates for Nvidia’s business, consensus expectations currently call for double digit revenue growth in each of the next four years.
Semiconductor Stocks to Buy: Taiwan Semiconductor Manufacturing Company (TSM)
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Taiwan Semiconductor (NYSE:TSM) is interesting, because it’s not one of the semiconductor stocks that first comes to mind for many investors. But with its $490 billion market cap, it’s an absolute behemoth in the industry.
Investors not only overlook the size of Taiwan Semiconductor, but also the performance. Earlier this year, the company sported a market cap of nearly $650 billion as it was hitting all-time highs in mid-January.
Most stocks can’t make that claim – not even Nvidia and AMD. Those two were down 23% and 20% from the highs on the same day TSM was hitting new highs, respectively.
In any regard, this isn’t a company to sleep on.
Analysts expect 28% revenue growth this year, then 15% growth in 2023, 17% growth in 2024 and 13% growth in 2025. On the earnings front, estimates call for more than 40% growth this year. That’s followed by estimates calling for 10% growth in 2023 and 16.6% growth in both 2024 and 2025.
Granted, these are just estimates, but it shows just how powerful of a company this is – and we’re not done.
Remember how we were just gushing about Nvidia’s 32% net profit margin? Well TSM has trailing net margins of 38%. The cherry on top is the valuation, which sits at just 16 times earnings – cheaper than both Nvidia and AMD.
On the date of publication, Bret Kenwell was long NVDA. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.
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