Technology > Tech Biz
Abandon chip?
Semiconductor stocks had a huge year in 2003. Next year probably won't be nearly as strong.
December 30, 2003: 1:29 PM EST
By Paul R. La Monica, CNN/Money Senior Writer

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NEW YORK (CNN/Money) - The Boston Red Sox may have broken their fans' hearts again this year and the Chicago White Sox didn't even make the playoffs. But the SOX from the City of Brotherly Love won the technology sector's equivalent of the World Series in 2003.

The Philadelphia Semiconductor Index, known as the SOX, has surged 76.5 percent this year. After some really tough years, orders for new chips and semiconductor equipment bounced back strongly due to increased demand for such things as wireless notebooks, camera phones and digital music players.

So the big question on investors' minds as we head into 2004 is whether or not chip stocks are still a good bet. The answer is yes...but don't get too excited.

Investors have already taken a big bite into chips

The outlook for the chip industry is clearly improving. PC sales were robust in the second half of this year. But investors should not get their hopes up for another year of 75 percent plus gains from chip stocks.

"Fundamentals for the semiconductor industry will continue to be strong but from a stock basis, the growth prospects will be less than they were in 2003," said Patrick Ho, an analyst with Moors & Cabot.

Expectations are much higher for the industry heading into 2004 than they were this time last year, Ho said. Intel (INTC: Research, Estimates), for example, was expected to earn 63 cents a share in 2003. Analysts now are predicting earnings of 77 cents a share. The consensus 2003 estimate for Texas Instruments (TXN: Research, Estimates) at the end of 2002 was 31 cents a share. The forecast is now for 45 cents a share.

Now there could very well be some upside to current estimates for 2004. But based on what's happened this year, it's hard to imagine that analysts' projections are all that conservative. In fact, next year's earnings estimate for Intel has increased 18 percent over the past three months, while TI's profit forecast has risen 34 percent.

Barry Randall, manager of the First American Technology fund, points out that Intel -- which he owns in the fund -- has more than doubled in 2003. That rise comes even though, in a best-case scenario, earnings will probably increase at a rate of about 20 percent to 30 percent annually over the next few years.

So given the run that it and most other semiconductor stocks have already had, Randall said that there are better growth opportunities for investors in software and technology services companies. "Chips aren't the only game in town by any means," he said.

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Sunil Reddy, manager of the Fifth Third Technology fund, also thinks semiconductor stocks could have another good year in 2003, but that investors need to be aware of some risks, namely pricing pressures. Weak prices for dynamic random access memory (DRAM) chips were a problem this year for such companies as Micron Technology (MU: Research, Estimates) and Infineon Technologies (IFX: Research, Estimates).

And the price for other chip components could slide in early 2004 since the first and second quarters are typically weak, as manufacturers of electronic devices that use chips tend to face lower demand for their products after the holiday shopping season.

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Semiconductors and Active Components
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That could give investors a good excuse to pull some money out of the hotter chip stocks. TI, Analog Devices (ADI: Research, Estimates), Xilinx (XLNX: Research, Estimates) and Nvidia (NVDA: Research, Estimates) have all nearly doubled, while Advanced Micro Devices (AMD: Research, Estimates), Broadcom (BRCM: Research, Estimates) and National Semiconductor (NSM: Research, Estimates) have each surged more than 125 percent.

Don't get me wrong. I think that 2003 was the beginning of the long-awaited recovery for semiconductors and the rest of technology. But so, it appears, do most investors. And now that it's abundantly clear the recovery has begun, it's simply going to be tougher for semiconductor companies to positively surprise Wall Street.

"It's unrealistic to expect a repeat of this year's performance," said Randall.

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