TSMC / Semiconductors– Supercycle pt. III

TSMC’s commentary has all the hallmarks of peak cycle.

• With $38bn in cash, $40bn in operating cash flow (before Capex), TSMC can afford to take some risk, but the sheer size of its investments in 2022 demonstrates that TSMC is intent on leaving its rivals in the dust come what may.
• TSMC is planning on spending a massive $40bn – $44bn on Capex in 2022 nearly 50% more than 2021 and triple the amount spent in 2019.
• Around ¾ of this will be spent on advanced process technologies including 2nm, 3nm, 5nm and 7nm with 10% being spent on packaging and the remainder on speciality technologies.
• The return on these investments will be felt over a period of years meaning that TSMC thinks that the industry is in a period of secular expansion with no real dip in sight.
• This is precisely the view that when uttered by semiconductor companies is most often an indicator of a peak in the semiconductor cycle.
• The causes of every semiconductor cycle are different each time but the result is always the same.
• This is because this industry has a fundamental mismatch between supply which is lumpy (fabs) and demand which is smooth.
• Consequently, the industry is often in a state where supply and demand do not match which is what creates the characteristic semiconductor cycle.
• This time around we are in what I would characterise as a supercycle (larger than usual) as a series of positive drivers of demand and constrictions upon supply have all occurred at the same time.
• These are the acceleration of digitisation triggered by the pandemic, supply chain disruption caused by lockdowns as well as China’s zero-COVID policy and geopolitical concerns causing more leading-edge fabs to be built in North America and Europe.
• Furthermore, the supply chain concerns have led to inventory building by device manufacturers fearful of having to cease production due to a lack of silicon chips.
• Hence, demand for chips has, in all probability, outstripped the underlying demand potentially setting up a meaningful reversal of the current situation.
• SARS-Cov2 is slowly being recognised as an endemic virus which is all likelihood has now competed out the influenza virus and will take its place.
• The combination of mass vaccination and the milder nature of the Omicron variant means that hospitalisation and death are greatly reduced as a percentage of total cases.
• Hence, once the current wave passes, the outlook for a full return to normality will improve greatly although this does depend to some degree upon China abandoning its doomed zero-COVID policy.
• Normality is likely to follow by a slowing or reversal of inventory building as well as a pause in end demand as the world goes back to the office and back to school properly.
• Hence, I think that contrary to the industry’s expectations, history will repeat itself and that there will be a sharp downturn as new capacity comes online and demand moderates at the same time.
• I am expecting this to occur in the second half of 2022 and it is at this point one should start to think about taking profits on this sector.
• The sector has performed extremely well over the last 18 months but some valuations look pretty stretched and the looming downturn threatens to unwind a lot of the gains.
• I am becoming increasingly cautious on this sector.