January 18, 2013

We think communications end market spending will bounce back in 2013.
-Christin Armacost, equity analyst, S&P Capital IQ

S&P Capital IQ raised its 12-month fundamental outlook on the semiconductor industry to positive from neutral this week, as we believe pent-up demand in select end markets will likely buoy chipmakers' revenues in the year ahead, potentially boding well for exchange-traded funds exposed to the group.

After about a 3% sales decline estimated for 2012, the industry is poised to grow about 4% in 2013, in our view. We see the strength led by a pickup in communications spending, continued growth in consumer electronics, an uptick in automotive, and GDP-like growth in military and industrial end markets. We see the computing end market flat in 2013, a drag given that it represents about one-third of the semiconductor chip industry's $293 billion revenue, according to S&P Capital IQ and market research firm IDC estimates.

In 2012, the Philadelphia Semiconductor Index rose 4%, underperforming the S&P 500's nearly 12% gain. In fact, the semi index underperformed the S&P 500 index for the last three years. Last year, in particular, computing saw a down year, slumping 8% in sales as the whole supply chain contracted in the face of a slowing macroeconomic environment and the secular shift to tablets from PCs. Additionally, carrier and enterprise spending started slow in the first half of 2012, and never really picked up in the seasonally stronger second half. Lastly, a weak global economy drove deteriorating industrial and automotive results as the year progressed.

Turning to 2013, we believe the industry is in good shape to at least grow in line with global GDP, likely reversing much of the trends seen last year, such as some chip customers' lean inventories, low utilization, and cost-cutting. The following provides additional detail of our assertions.

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