U.S. trade restrictions on selling advanced chip technology to China have shaken makers of semiconductors the world over. Now possible retaliation by the world's largest buyer of chips threatens to pull the rug out from under struggling semiconductor stocks, and ripple through the U.S. economy.
The new trade curbs announced last month likely will hinder China's efforts in artificial intelligence, autonomous vehicles and other areas that need the latest computer chips. But China has many tools it could use to strike back at the U.S., from vetoing corporate mergers to withholding critical materials used in electronics. It could also simply take its chip business elsewhere in the longer term.
And China holds considerable market clout, as it consumes more than a third of the world's semiconductors.
China hasn't responded in kind to the latest U.S. trade restrictions — yet.
"There's been no response yet other than complaining," Robert Maire, president of consulting firm Semiconductor Advisors, told Investor's Business Daily. "But there are plenty of ways for them to respond."
Keeping China Two Generations Behind
The U.S. technology trade war with China began in mid-2019 when the U.S. Department of Commerce put Huawei on its entity list, barring trade with the Chinese telecom and computing firm. Since then, the U.S. government has gradually expanded its restrictions on technology trade with China.
President Joe Biden stepped up sanctions against China on Oct. 7 when he added more technology to the U.S. restricted trade list. The latest trade curbs cover advanced microprocessors and memory chips.
Companies now must secure export licenses from the U.S. Department of Commerce to sell chips and semiconductor manufacturing equipment in those areas. The restrictions also cover foreign companies that use U.S. software and technology in their products.
The intent of the export controls is to limit China's supercomputer and semiconductor manufacturing advancements. The U.S. is concerned that the technologies could enable China's military modernization and surveillance operations. It's also concerned about sales of advanced weapons to Russia.
The U.S. and Europe also worry about anticompetitive business practices by Chinese entities.
With its latest moves, the U.S. is returning to its historical strategy of keeping China two generations behind on semiconductor technology, Maire says.
Semiconductor Stocks Face Revenue Loss
U.S. semiconductor firms could lose 5% to 10% of their sales from the new China restrictions, BofA Securities analyst Vivek Arya said in a recent note to clients. Most vulnerable are makers of central processing units, graphics processing units, semiconductor equipment and electronic design automation software, Arya said.
These firms include central processing unit makers AMD and Intel, graphics-chip maker Nvidia and chip-gear makers Applied Materials, KLA and Lam Research.
Also impacted are chip-design software firms Cadence Design Systems and Synopsys.
Wall Street analysts say the impact on those semiconductor stocks appears manageable for now.
But the restrictions could have a significant impact on computer makers that sell servers and data center hardware in China, including China's own Lenovo.
China Could Halt Tech Mergers
One way China could retaliate is by not approving foreign mergers and acquisitions, analysts say. Multinational companies that meet a certain threshold for sales in China need approval for mergers from the Chinese government.
Case in point: On Nov. 1, chemical giant DuPont abandoned its $5.2 billion acquisition of Rogers, a U.S. electronic materials maker, after failing to get approval from Chinese regulators. DuPont blamed protracted delays in securing regulatory approval in China for its decision to scrap the deal, which was announced a year ago.
Wall Street analysts have speculated that other pending deals are threatened by the heightened tension between the U.S. and China. They include Intel's $5.4 billion purchase of Tower Semiconductor and MaxLinear's $3.8 billion acquisition of Silicon Motion.
China also could put up a roadblock to Microsoft's $69 billion purchase of video game publisher Activision Blizzard.
Another way China could respond to the U.S. trade curbs is by imposing tariffs on U.S. imports. It could also restrict exports of rare earth materials, battery components and pharmaceutical materials.
"One area where China has some unique monopolistic leverage over us is in rare earth elements and other materials that are used in electronics," Maire said. "They could respond by cutting us off or threatening to cut us off."
Analysts see a low likelihood of China invading Taiwan to gain its semiconductor leadership. China considers Taiwan a runaway province and does not recognize its independence.
China Might Give Cold Shoulder To U.S. Chipmakers
U.S. semiconductor trade restrictions will push Chinese companies to diversify away from U.S. suppliers. They might rely on "more dependable" suppliers in Japan, South Korea and Europe, Mizuho Securities analyst Vijay Rakesh said in a recent report. At the same time, China will continue to develop its own semiconductor industry to try to catch up, he said.
China also could move away from U.S. chipmakers in semiconductor segments not covered by the trade restrictions, Rakesh said.
For instance, in analog chips, China could shift business from U.S. firms like Texas Instruments and Microchip Technology to Europe's Infineon and STMicroelectronics and Japan's Renesas, he said.
The same could happen for radio-frequency chips used in cellphones. That would hurt U.S. wireless-chip firms Qorvo, Qualcomm and Skyworks Solutions.
Redoubling China's Chip Efforts
Regardless of the trade restrictions, the Chinese government is likely to continue its massive funding campaign to expand its domestic semiconductor capabilities. As of now, the country remains at least five years behind industry leaders.
China is the largest buyer of semiconductors, consuming 35% of global semiconductors in 2021, but producing only 7% domestically. Last year, China imported about $150 billion worth of semiconductors. That's about 80% of its chip consumption, according to BofA Securities.
"China has limited options for retaliation and is likely to focus on boosting self-reliance," Barclays analysts said in a recent note to clients.
The latest trade bans include sub-18 nanometer DRAM memory chips and 16- and 14-nanometer node logic chips. Circuit widths on chips are measured in nanometers, which are one-billionth of a meter. The ban also covers Nand memory chips at 128 layers and above.
Also included are high-performance chips with data transfer rates of 600 gigabytes per second or more. Further, the trade restrictions cover chips with processing performance above 4,800 TOPS, or trillions of tera operations per second.
Nvidia has already started offering alternative graphics processors to China that meet the new export controls. Its new graphics processing unit, the A800, has a data transfer rate of 400 gigabytes per second. That's below the 600Gbs threshold set by the U.S. government.
Companies most impacted by the latest U.S. trade restrictions are Chinese firms. They include chip foundry SMIC and Nand memory chipmaker YMTC.
Semiconductor Stocks: Chip Cycle Entering Downtrend
Meanwhile, semiconductor stocks have been beaten down by a cyclical downturn in memory chips and PC processors. Downturns may lie ahead in other segments. Areas still showing strength are cloud computing data centers and automotive markets.
Through Nov. 21, the Philadelphia semiconductor index, known as the SOX, is down 32% in 2022. The SOX includes the 30 largest semiconductor stocks traded in the U.S. By comparison, the S&P 500 index is down 17% year to date.
The downswing in the chip sector comes after two years of heightened demand.
The pandemic spurred demand for personal computers, tablets and home entertainment gear amid the work-from-home, school-at-home and shelter-in-place trends. Add to that secular growth trends such as cloud computing, 5G wireless, advanced driver-assistance systems and electric vehicles. Increased demand caused supply shortages in some segments of the chip market.
U.S. Government Funding For Chip Manufacturers
To bolster U.S. supplies, the Biden administration has ramped up funding for domestic chip development and production.
With the passage of the 2022 CHIPS Act in August, the federal government is making its largest single investment in semiconductor R&D ever. The CHIPS Act is a $280 billion package that includes grants and tax credits over the next 10 years. It includes nearly $53 billion in subsidies for companies investing in semiconductor manufacturing and equipment in the U.S.
Even before the CHIPS Act, chipmakers planned to expand production in the United States. But the possibility of U.S. government funding and support has fueled more interest in new domestic plants.
Chipmakers GlobalFoundries, Intel, Micron, Samsung, Texas Instruments and Taiwan Semiconductor Manufacturing have all announced plans to expand U.S. wafer and chip capacity. Taiwan Semi, or TSMC, is building a cutting-edge chip fab in Arizona to produce 5-nanometer and 3-nanometer semiconductors. Intel is building new plants in Arizona and Ohio.
The CHIPS Act aims to amplify the scope and impact of existing U.S. semiconductor research and development. It establishes two new entities, the National Semiconductor Technology Center and the National Advanced Packaging Manufacturing Program.
Semiconductor Stocks: An Industry Critical To U.S.
Governments in Europe, India, Japan and South Korea also are pursuing domestic semiconductor investment initiatives.
The U.S. and its allies are concerned about concentrating too much semiconductor business in Taiwan and China. They also seek to avoid the supply disruptions experienced during the Covid-19 pandemic.
The U.S. doesn't want to see its semiconductor expertise usurped by China in the same way it lost the manufacturing base for solar panels, light-emitting diodes and other tech products, says Maire of Semiconductor Advisors.
"It's correct to take an aggressive stance here because semiconductors are highly important for defense and intelligence gathering but also general-purpose computers, servers, etc.," Maire said. "It's one thing to let the solar industry go to China, but losing the semiconductor industry would be devastating."
The U.S. share of global semiconductor production has dropped to 12% currently from 37% in 1990. Europe's share of chip production has fallen to 9% from 44% over the same time period.
Taiwan's TSMC Leads In Leading-Edge Chips
Asia currently accounts for 75% to 80% of global chip manufacturing. That's mainly in Taiwan, South Korea, mainland China and Japan.
But Taiwan dominates leading-edge chip production. It controls about 92% of global production for 10-nanometer and below nodes, all coming from TSMC. The other 8% comes from Samsung in South Korea, Goldman Sachs said in a recent report.
Most 5G smartphone application processors and computer central processing units and graphics processors are made with 10-nanometer and below technologies.
Next up could be U.S. restrictions on sales to China of quantum computing, high-end biotechnology and artificial intelligence software, Evercore ISI analyst C.J. Muse said in a recent note to clients.
"Additional controls are coming," Muse said. "We would expect the U.S. government to focus on areas such as quantum computing/AI software, biomanufacturing, and/or high-capacity batteries."
Follow Patrick Seitz on Twitter at @IBD_PSeitz for more stories on consumer technology, software and semiconductor stocks.
