Semiconductor ETFs: how to pick the best stocks in the industry

Semiconductor ETFs: how to pick the best stocks in the industry

Semiconductor stocks may be an excellent area for investors, even though the prospect of a long period of rising interest rates has put pressure on some high-flying technology stocks.

On Tuesday, investors sent chipmakers stocks higher after Taiwan Semiconductor Manufacturing Co. TSM reported double-digit increases in fourth-quarter sales and earnings, and said capital expenditures in 2022 would total between $40 billion and $44 billion.

Chipmakers are one of the best tech-oriented plays, because demand is rising for semiconductors used in vehicles and all kinds of devices.

Below is a screen of 44 stocks held by three exchange traded funds that are focused on the semiconductor industry.

The three funds have varying approaches. First, here are their average annual returns for different periods against those of the SPDR S&P 500 ETF Trust SPY and the Invesco QQQ Trust QQQ, which tracks the Nasdaq-100 Index.

The semiconductor ETFs have outperformed SPY and QQQ by wide margins for all periods. Their performance has been similar but mixed, with the VanEck Semiconductor ETF SMH taking the prize for the three-year and 15 year periods.

The iShares Semiconductor ETF SOXX has had the best average returns for five years and 10 years. The SPDR S&P Semiconductor ETF XSD ranks second for three years, but trails the other two for all other periods on the table.

Here is more about the semiconductor ETFs:

SOXX is the largest, with $9.9 billion in total assets. It holds the 30 stocks in the PHLX Semiconductor Index, the 30 largest U.S. listed companies including American depositary receipts for non-U. S. companies that make computers chips or provide equipment or services used to make them. ADRs are capped at 10% of the portfolio. The limits of theETF are based on market capitalization, with limits of 8% for the five largest holdings and 4% for the rest. The top five stocks are Broadcom Inc. AVGO Qualcomm Inc. QCOM Nvidia Corp., NVDA Intel Corp., INTC and Advanced Micro Devices Inc. AMD makes up 35% of the portfolio.

XSD has $1.6 billion in assets and holds 40 stocks of semiconductor companies of various sizes included in the S&P Total Market Index. The portfolio is equal-weighted and rebalanced quarterly. According to FactSet, the equal weighting tilts its portfolio away from big, well-known companies to smaller growth ones. SMH has $1.3 billion in assets and holds 25 U.S. listed stocks or ADRs that are selected through a modified cap-weighted methodology that doesn't put a limit on the percentage of non-U. There are S. companies in the portfolio. The largest holding is Taiwan Semiconductor, which makes up 10.5% of the portfolio, while accounting for only 4% of the SOXX portfolio.

Long-term investors looking for the broadest take on the industry might be well-served by holding shares of all three of the ETFs approaches, and there is something to be said for each of the approaches.

Now let's look at the forward price-to earnings ratios based on the consensus estimates for the next 12 months among analysts polled by FactSet, as well as expected compound annual growth rates for sales per share, earnings per share and free cash flow per share through 2023:

What is the highest P E valuation for QQQ and the highest expected EPS and free-cash flow CAGR for XSD through 2023?

XSD is the most expensive of the three semiconductor ETFs on a forward P E basis. It is expected that it will grow EPS and FCF much faster than QQQ on this basis.

If we take the three ETF portfolios together, removing duplicates, we have a list of 45 stocks. There are 44 of the companies that have sales per share and earnings per share through the year 2023, according to the Consensus. Free cash flow estimates aren't available for some, and these are marked N A. If a company is expected to report negative earnings for a calendar year, the EPS CAGR will also be marked as N A. The list of 44 semiconductor-industry stocks is sorted by estimated two-year sales CAGR through 2023:

The sales growth of WOLF is expected to be the fastest in 2023, according to analysts. It isn't expected to turn an annual profit until 2023, so the EPS CAGR is marked N A. You can start your research by looking at stock screens, but they are limited. Don t miss: These S&P 500 stocks have cratered, but analysts think 12 can turn it around with rebounds of up to 70%.