Since the emergence of “Modern Portfolio Theory” and the “Capital Asset Pricing Model” in the late 1960s, institutional investors have taken a quantitatively driven approach to portfolio construction, looking to create portfolio diversification and obtain better risk-adjusted returns by balancing their asset-class exposures. This journey has seen several important advancements in thinking about how to optimally achieve desired results.
Funds that want to take the total portfolio approach first need to get the total portfolio view. To do that they not only need data – and lots of it – but a rock-solid understanding of exactly how they’re going to use it.
Trade winds blow for semiconductors
Semiconductors are ‘the new oil’. The big problem is getting them.
“What we’re seeing is an explosion in the amount of data gathering and measurement and functionality across whole swathes of industries,” says Matthew Reynolds, Capital Group investment director for Australia. “Chips are literally going into every device you can think of – not just the obvious ones, like our phones and computers. It looks like the new oil in many respects.”
Established in 1973, as the neoliberal world order was beginning to assert itself over decades of economic protectionism, Capital Group’s New Perspectives Fund (NPF) has made its business in the changing nature of global trade in the years since: the ascendancy of commodities in the decade it was founded, the home computing revolution through the 80s, the mobile device boom in the 90s, the rise of emerging markets in the 2000s.
“It was designed to take advantage of and invest in companies that would be winners out of how the changes in global trade were occurring,” Reynolds said. “What’s traded today might be different… but the companies we’re investing in are still taking advantage of changes in what consumers are demanding and how those products and services are traded between various companies around the world.”
Case in point: semiconductors. Which is the fancy name for what people have colloquially referred to as silicon chips for the last few decades. Over that time they’ve mostly gone into computers and medical devices, with attendant and exponential advances in their complexity (Moore’s Law holds that the number of transistors in a semiconductor chip doubles about every two years, though some manufacturers have observed an acceleration in this rate). They’re now being embedded in increasingly automated agricultural and manufacturing machinery, as well as in cars.
Reynolds believes that if oil was the commodity that powered the industrial revolution by making internal combustion engines run, semiconductors are going to be the defining agent of the digital age as more and more tasks are farmed out to machine helpers.
“Semiconductors to our frame of mind look to be a really essential part of economic growth going forward, similar to how oil looked historically… It’s a product that’s going to have an impact on many other products, and may even become essential to the final sale of things like cars – you can’t sell it without the chip,” Reynolds said.
There has been substantial consolidation in the semiconductor industry – it’s a highly competitive industry, and highly expensive to participate in – removing some of its cyclical aspects, but global semiconductor supply has been sluggish in recent months. Auto manufacturers cancelled orders in the depths of Covid-19 in the belief that consumption would drop dramatically – when it in fact grew strongly. The orders were snapped up by consumer electronics manufacturers, and due to the complexity and time involved in manufacturing more chips, the supply has suffered.
“Most people would know someone who knows someone whose new car is not available for delivery, because the manufacturer has everything made – except the chip that makes it work. And it’s an illustration to us as investors of how critically important the supply of semiconductors is now to the world economy, and we don’t think that changes.”
Of course, there’s another obvious risk to the rosy view of semiconductor domination. While many chip makers are expanding the geographic distribution of their operations, TSMC would likely be collateral damage in any belligerent conflict over Taiwan’s place in China – an outcome that looks increasingly likely in the aftermath of its moves against Hong Kong.
“Not every country has a native ability to manufacture chips – continental Europe, for example, doesn’t have its own chip fabricator,” Reynolds says. “They rely upon supply from Asia. China’s ability to manufacture chips lags Asia significantly in terms of the sophistication… the US does have the ability to make leading edge (the most complex semiconductors, found in high-end applications) chips. But when you couple that with the fact that the availability of chips is important for continued economic growth, you do have to pay attention to the geopolitics.”
