As 2024 progresses, the semiconductor sector has presented a complex but intriguing investment landscape. The PHLX Semiconductor Index has seen an overall year-to-date increase of 8.7%, dividends included. However, a recent downturn in April saw the index drop by 7.7%. In a similar vein, Nvidia Inc., a standout in the industry, experienced a 12% decline this month, despite an impressive annual growth of 61% following a stellar performance in 2023 where its value more than tripled.
Analysts from Bank of America suggest that this pattern of a pullback in April, followed by a rally in May, is typical for semiconductor stocks. Such cyclical trends offer both long-term investors and short-term traders opportunities to either broaden their exposure to the sector or pick specific stocks. For broader exposure, one might consider the iShares Semiconductor ETF, which mirrors the PHLX Semiconductor Index by holding shares in all 30 of its constituent companies, including Nvidia, which comprises 8.4% of the ETF.
Turning to valuations, the semiconductor index is currently trading at a forward price-to-earnings (P/E) ratio of 27.8. This is an increase from 24.3 at the end of last year and down from a March peak of 33.3. This compares to the S&P 500’s forward P/E of 20.2, reflecting a premium placed on semiconductor stocks relative to the broader market.
In-depth valuation comparisons reveal that both the PHLX Semiconductor Index and the S&P 500 are trading above their historical averages across various time frames, signaling a higher market valuation in recent times. The semiconductor index, in particular, shows a substantial premium over its 3-year, 5-year, 10-year, and 15-year averages.
The iShares Semiconductor ETF and the SPDR S&P 500 ETF Trust have demonstrated significant differences in performance over multiple time frames. Notably, the semiconductor ETF has outperformed over longer periods, highlighting its higher growth potential compared to the broader market. This is particularly evident in the 15-year and 20-year returns, which also underscore the sector’s volatility during the 2008/2009 financial crisis.
Historical revenue and earnings per share (EPS) growth rates further underscore the robust performance of the semiconductor sector. Over the past five years, the semiconductor index has seen a compounded annual growth rate (CAGR) of 7.5% in sales and 7.1% in EPS, outpacing the S&P 500.
Looking forward, the semiconductor sector is poised for continued growth. The two-year estimated sales CAGR through 2025 for the sector is projected at 9.5%, with an EPS CAGR of 20.3%, significantly higher than the corresponding figures for the S&P 500.
Among individual companies, Nvidia stands out with the most substantial forward P/E ratio reduction over the past year, indicating a strong market correction despite the stock’s price nearly tripling. This could signify a potentially attractive entry point for investors betting on Nvidia’s continued dominance, especially in the graphics processing unit market for data centers.
Conclusively, the semiconductor sector offers a promising but potentially volatile investment landscape. With higher growth rates in both sales and earnings compared to the broader market, the sector commands a premium in terms of valuation. However, investors should be mindful of the inherent risks and consider their investment horizon and risk tolerance. As always, thorough research and due diligence are advisable before making any investment decisions.
