GM & all,
The following Money Daily article talks about DRAM prices as well:-
Despite recent gains, semiconductor stocks are expected to suffer
Merrill Lynch lowers its outlook for the sector again;
the culprit, no surprise, is Asia
by Michael Brush
Friday, January 30, 1998
8:00 p.m. EST
echnology stocks have rebounded nicely as the
markets begin to feel more confident about Asia.
Among them have been many of the companies that
make computer chips and the equipment used to produce
and test them.
But don't be fooled. These semiconductor stocks are still
in for a rough ride. Indeed, the near-term outlook for the
group took on a bleaker tone Thursday when Merrill
Lynch analysts once again adjusted down their
expectations for the stocks.
In a conference call with brokers and money managers,
Merrill Lynch analysts Tom Kurlak and Robert Stern
notched down their expectations for the sector's
performance in 1998.
Kurlak, who covers semiconductors for Merrill Lynch,
says weak demand and overcapacity mean things are
going to get worse for the sector before they get better.
He says the group will test new lows sometime soon, after
having recovered somewhat from the last selloff that
peaked in December.
"The semiconductor makers are grudgingly accepting the
fact that there is a slowdown," says Kurlak. "And they are
holding out for recovery in the second half. But we are
doubtful about that because of a worldwide slowdown
this year."
Part of the problem is a slowdown in demand for the
products that use chips and, Kurlak cautioned, little
reduction in capacity going on. What's more, he said,
many of the big Korean chip makers plan to aggressively
exploit the weakened Korean currency to increase their
global sales.
Stern, who covers the companies that make equipment
used to produce chips, says he now expects growth of
only 0% to 5% for the year, down from his previous
forecast of 5% to 10%. U.S. companies like Texas
Instruments (NYSE: TXN) and Motorola (NYSE: MOT)
plan to spend more on chip equipment. But that will be
more than offset by a slowdown in spending by Asian
companies.
Merrill Lynch analysts held the conference call in part to
warn investors not to get fooled by a rebound in the
market for DRAM chips in January. That rebound gave
the impression that the highly cyclical chip sector may be
coming off a low point in its cycle.
Like the Merrill Lynch analysts, however, Cowen
semiconductor equipment analyst Tai-min Pang believes it
is not. Instead, the faux rebound was due to a quirk in the
market caused by the Asian economic crisis.
Here's what happened. Around the end of last year, says
Pang, many chip makers in Korea had trouble getting
credit to buy raw materials. The result: firms like LG and
Hyundai had to close down production. And to make up
for the lack of credit, they dumped their DRAM inventory
on the spot market to raise cash.
At the same time, explains Pang, many personal computer
makers, uncertain about the future, also cleared out their
DRAM inventory and sold it in the spot market, without
ordering more. Both events drove down the cost of
DRAM, pulling the chip stocks down as well.
By January, the DRAM producers had stopped clearing
out their inventory. "And all of the sudden PC makers
realized they did not have enough so they had to go to the
spot market," says Pang.
That raised DRAM spot prices short-term, giving the
false impression of a turnaround off the lows of the cycle
for the sector. But it wasn't, analysts say. "You want to be
careful not to mistake an increase in orders in January
from December as a pick up in the sector," warns Kurlak.
Why isn't it a genuine upturn? The Korean producers who
had to sell inventory to raise cash are now producing
again. Their DRAM should hit the market in March. And
that will send DRAM prices back down again. "I would
be surprised if the price of DRAM did not start to fall
again at the beginning of March," says Pang. And the
prices of chip stocks, which track the price of DRAM,
will follow.
"In the next quarter or two we could actually see the
bottom," says Pang. After that, the stock prices of chip
and chip equipment maker stocks should start to recover.
"In six months time most of these stocks will be priced on
1999 earnings. And I am fairly confident that 1999 will be
an up year from 1998."
The upcoming dip in chip equipment stocks that should
occur may present a good buying opportunity for the long
term investor, Pang thinks. He recommends buying chip
equipment stocks when they hit their "trough valuation."
That is the level at which a stock's price to sales ratio
(market capitalization divided by trailing twelve month's
sales) is as low as it was the last time the overall sector
was in the bottom of its cycle.
There are at least three chip equipment stocks investors
should keep an eye on and buy when they hit their trough
values, according to Pang. For example, he says the last
time the sector bottomed out, Dupont Photomasks
(NASDAQ: DPMI) had a price to sales ratio of 1.3.
That's a "trough valuation" of about $22 or $23 in today's
market. The stock's current price to sales ratio is about
1.6.
Another stock Pang likes, Lam Research (NASDAQ:
LRCX), bottomed out last time at a price to sales ratio of
0.6. That implies a trough valuation of $17 or $18 in
today's market. The stock's current price to sales ratio is
about 0.7. Finally, PRI Automation (NASDAQ: PRIA)
will hit its trough valuation if the stock returns to about
$22. At that point, the stock will have a price to sales
ratio of 2. The current price to sales ratio is 2.5.
Pang's is an interesting approach. But don't forget: Calling
the bottom of any market - not to mention one in the
midst of an economic crisis -- is tricky at best.
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