2023-06-09 10:52:15 ET
Summary
- PSI provides exposure to the US semiconductor industry and has shown steady growth despite unfavorable sector projections.
- The fund has some weaknesses, such as high annualized volatility and a smaller AUM compared to its peers.
- The semiconductor industry is expected to rebound in 2024, with a forecasted 56% increase in global demand for semiconductor manufacturing capacity by 2030.
While the US semiconductor industry experienced large growth during the pandemic, the sector has been facing a number of challenges lately as a result of macroeconomic headwinds. Despite several legislations enacted to bolster the sector, such as the CHIPS Act and the Science Act, recessionary and inflationary concerns continue to slow chip sales and growth. Interestingly, the Invesco Dynamic Semiconductors ETF (PSI), and other prominent semiconductor ETFs, seem to be resilient to these conditions, as reflected by their robust performance in 2023. Still, I rate PSI a Hold. The fund's performance seems to defy industry trends, but I am still not confident that this alone should lead me to believe that the fund will continue its current performance trajectory throughout 2023 and beyond.
Launched and managed by Invesco Capital Management LLC, Invesco Dynamic Semiconductors ETF aims to provide investors with exposure to the US semiconductor industry. This sector is integral to many areas of the tech industry and global economy, with enabling technologies that have practical applications in countless other industries. At its core, PSI is a passively managed fund and aims to track and replicate the performance of the Dynamic Semiconductor Intellidex Index. Instead of using a traditional market-cap weighting approach, the fund selects and weighs its holdings through a proprietary and quantitative methodology that considers various factors, such as price and earnings momentum, risk factors, and valuation, among others.
Holding Analysis
The fund invests in mid-cap and large-cap stocks of semiconductor technology, manufacturing companies, and other companies involved in various stages of the semiconductor value chain. PSI only invests in 32 holdings in the United States, with a strong focus on prominent companies within the semiconductor space. Although the fund may lean towards large-cap companies in its top 10 holdings, the rest of the fund is relatively concentrated in small-cap, growth companies. Especially in a sector as specialized as semiconductors, this balance provides a level of stability and diversity to a fund that is otherwise very concentrated.
Growth despite unfavorable sector projections
PSI seems to have shown steady growth throughout 2023 following a dip in October 2022. Despite minor volatility, the fund is currently up nearly 40% from October 2022.
In the past three years, PSI has closely followed its peer competitors, namely XSD, SMH, and SOXX. These funds most accurately represent the semiconductor sector, and they have all reported strong growth throughout the pandemic, up until the beginning of 2022, where the semiconductor industry began experiencing a bear market. The growth near the end of 2022 and into the first half of 2023 is interesting to me considering that conditions for the US semiconductor space haven't necessarily improved.
Over the past three years, PSI has closely tracked its key competitors, notably XSD, SMH, and SOXX, all of which accurately represent the US semiconductor sector. These funds demonstrated considerable growth during the pandemic, maintaining their growth until the onset of 2022 when the semiconductor industry entered a bearish phase. What strikes my interest is the uptrend towards the end of 2022 and into the first half of 2023, considering that circumstances within the U.S. semiconductor landscape haven't shown significant improvement.
The fund's recent performance is especially noteworthy considering a negative industry outlook for semiconductors in 2023. The industry is experiencing declining revenue and reduced capital expenditures, where revenue declined by 9% from 2022 to 2023. These are challenging circumstances that would typically reduce investor confidence and decrease fund performance. However, PSI and the group of semiconductor ETFs above grew this past year despite these unfavorable market conditions. Furthermore the global semiconductor market is projected to decrease by nearly 11% in 2023, which further underscores the unexpected performance seen by PSI and its peer funds.
Weaknesses
The fund, itself, has some inherent weaknesses. PSI suffers from a high Annualized Volatility rate at 37%, whereas the median for all ETFs is nearly 20%, signifying larger potential risk and price changes for a near term outlook. Despite this short-term volatility, the fund's growth trajectory still seems to align with industry trends and patterns, making its peaks and troughs somewhat predictable. The fund also has a significantly higher Turnover rate at 84% compared to the median for all ETFs at 32%. This means that PSI is frequently making changes to its portfolio, which can potentially lead to inconsistent performance, reinforcing the fund's short-term volatility and unpredictable returns. The Tracking Error for PSI over 1, 3, and 5 year periods significantly exceeds the benchmark for all ETFs. This discrepancy could provide some insight into the fund's ability to deliver positive performance amid negative industry trends.
With its inception in 2005, PSI is a relatively old ETF compared to its peers, and it's interesting to consider that the fund has only amassed an AUM of $618M. PSI's competitors all have AUMs in the Billions with a later inception date. The only exception appears to be ( SOXQ ), with an AUM of $137M, but it's important to note that this fund only entered the market in 2021. Take for instance, ( XSD ). This fund was only founded a few months after PSI, but has managed to amass an AUM more than double that of PSI. This comparison begs the question of why PSI's AUM is substantially smaller given its longevity in the market.
It seems to me that PSI is just somewhat unpopular among investors in the semiconductor space. Looking at the fund's Average Daily Share Volume, it is clear that at a volume of over 36,000, PSI significantly trails all of its peer competitors. The fund's expense ratio is not excessively high, and its historical performance has been very comparable to its peers as well. While having a low Average Daily Share Volume doesn't mean that PSI is a bad investment, it leads me to wonder what about the fund makes it less attractive among its peers.
China's recent semiconductor slump
The recent slump in China's semiconductor equipment purchases could present profitable opportunities for PSI. While China's semiconductor manufacturing sales were down 23% in 2023, the US is looking to boost domestic chip production. Global chip equipment sales increased 9% in 2023 in the first quarter of 2023, with North America constituting a substantial portion of the sales at over 50%. This indicates a strong demand for semiconductor equipment in this region, which may be especially profitable for funds like PSI that are entirely focused in the United States. Furthermore, with China's slump, the global demand for semiconductors could potentially be shifted towards the US and its allies.
Uptrend in 2024 and beyond
While semiconductor revenue in the US is projected to decline by 11% in 2023, the space is expected to rebound by over 18% in 2024. Indeed, a study conducted by the Semiconductor Industry Association and the Boston Consulting Group forecasted a substantial 56% increase in global demand for semiconductor manufacturing capacity by 2030. Regardless of cyclical downturns and macroeconomic headwinds, the continuous development of technology will inevitably drive demand for semiconductors in the long run.
China's ban on Micron and what this means
With Micron Technology ( MU ) as a top holding in PSI's portfolio at nearly 5%, China's ban on Micron can only serve to hurt the fund's performance as the ban has the potential to significantly disrupt Micron's sales in China. This decision will likely only increase tensions between the US and China in the tech war, creating further competition and animosity between the two. Given the country's ability to rapidly replace Micron's market share with up-and-coming domestic semiconductor companies, China's decision to ban Micron makes sense given that it only serves to hurt the US semiconductor industry. However, this event might also cause Micron and other US semiconductor companies to diversify its customer base. Instead of heavily relying on China, they could shift their focus to markets outside of China, particularly countries like Germany, Japan, or Taiwan that are also global leaders in the industry.
Conclusion
My current rating for PSI is Hold. However, my decision on this will likely change to Buy in a few months as projections for 2024 become more clear and positive trends begin to emerge in the US semiconductor industry. After 2024, my rating on the fund will most likely be a long-term Buy. Even amid a bullish industry environment, the fund will likely have to navigate near-term volatility and frequent portfolio turnovers. However, with improving macroeconomic conditions and an economic recovery on the rise, I am optimistic that the sector will improve, and I anticipate that this ETF will not dip to its lowest point anytime soon.
For further details see:
PSI: Continues To Be A Long-Term Investment Despite Volatility