The Semiconductor Rally Is Probably Over

Despite a tough year for semiconductors, the VanEck Semiconductors ETF (NASDAQ: SMH) has rallied 30% over the last month. But recent industry announcements and earnings from Nvidia Corp. (NASDAQ: NVDA), Micron Technology Inc. (NASDAQ: MU), and Kulicke & Soffa Industries Inc. (NASDAQ: KLIC) put those gains in real jeopardy.

Global macroeconomic trends have an outsized impact on the semiconductor industry, and economies are slowing across the world; consumer electronics, cars, and even datacenter build-outs have all slowed significantly.

Just take a look at what these recent announcements tell us.

Nvidia's, Micron, and K&S Are All Showing Troubling Signs 

Nvidia just reported earnings, and while, on the surface, revenue beat analyst estimates at $5.9 billion, that number is still down 17% year over year (YoY. Earnings-per-share (EPS) of $0.58 also fell 50% year over year, below analyst estimates of $0.71.

One of the heaviest weights on performance was gaming revenue, which declined, sequentially, 51% YoY on the back of a 24% drop. Chief Financial Officer Colette Kress cited both macroeconomic headwinds and COVID-19 lockdowns in China, which hurt consumer demand. This reporting group also includes cryptocurrency mining, and that's taken a hit now that the Ether (ETH) "Merge" is complete - no one mines ETH anymore.

Nvidia's datacenter segment helped to counteract the continued weakness in the gaming segment. Revenue grew 31% YoY, driven primarily by the United States' demand across cloud providers and a broadening set of consumer internet companies. The downside here is that this is down from 61% last quarter and 86% in Q1.

September proved a big challenge, as the U.S. government levied new restrictions on the sale of high-end processors to China. Management estimated this would result in a $400 million hit to revenue, and the company needed to retool its product to restart shipping to China. Demand has remained soft, as well.

While Nvidia is forecasting an uptick in sales, guiding for revenue of roughly $6 billion. That's comparable to Wall Street's expectations of $6.1 billion, but macro headwinds could continue to put pressure on its business. We have seen snowballing Big Tech layoffs and cost-cutting, and that could also dig into Nvidia's sales.

Micron still can't catch a break: it missed already lowered expectations for sales last quarter and announced a weak outlook. Now Micron has put out a press release to address the market condition. They are now "reducing DRAM and NAND wafer starts by approximately 20% versus fiscal fourth quarter 2022."

This is bad news given the cuts we've already seen. Micron had already cut capital expenditures (Capex) for fiscal 2023 by 50%. This additional cut, just shows how bad consumer demand is likely to get.

There's more pain to go around in the sector. K&S recently reported earnings, beating estimates, but producing a lower YoY profit.

The big issue here is K&S' next quarter revenue guide of $17 million to $20 million against analysts' consensus at $244.4 million. Compare this to Q1 this year, when revenue was $460.9 million. Meanwhile, EPS dropped to $2 from $2.11 over the same period.

This is important as they provide assembly solutions to the industry and could be a sign of what is to come for end markets. While oversupply is part of the issue, macroeconomic factors have also impacted demand.

The Bottom Line

The semiconductor industry outlook looks grim going into 2023. The macroeconomic environment has to materially improve, and that's not likely to happen anytime soon. We've seen demand for consumer electronics such as softening smartphone demand, slowing growth in datacenter build-outs, and even automotive sales - a huge market for semiconductors - are slowing.

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