Sell-off Opens 4 Long-Term Plays

11/24/2011 9:30 am EST

Focus: TECHNOLOGY

The RF-semiconductor sector has been hit hard of late, but the selling might soon be overdone, observes Paul McWilliams of Next Inning Technology Research.

I have fielded several questions from readers that isolate on a single stock in the RF-semiconductor sector. Each asks the same thing: why is "xyz" stock selling off so much, and is it time to accumulate shares?

On October 12, I was receiving questions about stocks in the fiber optics sector, with Finisar (FNSR) being the hottest topic of the day. In a response to a specific question posed by a reader, I described a process I called a "chart check" where I compared charts for FNSR with JDS Uniphase (JDSU), Oclaro (OCLR), and Ciena (CIEN).

The chart check revealed FNSR was actually outperforming its comparative measures. Based on that analysis, the rational conclusion was the sell-off was not a company-specific event—it was more sector-related.

If we look at the price activity for the four pure-play RF stocks I follow most closely, and evaluate their moves since the October 31 close, we can see this is more a sector sell-off than a company specific event for TriQuint Semiconductor (TQNT). Through to when I took a mid-day pulse, Anadigics (ANAD) is down 17.5%, RF Micro Devices (RFMD) is down 15.5%, SkyWorks Solutions (SWKS) is down 18.2%, and TQNT is down 20.1%.

If we evaluated this data in a vacuum, it would seem at least somewhat illogical that ANAD isn’t the worst performer, since it is the only stock out of the group that has been reporting losses and eating cash. However, when we peel the onion, we can see there is a reason for ANAD’s relative strength when compared with SWKS and TQNT.

The two factors weighing in ANAD’s relative favor here include the fact that earnings estimates (the loss estimate) for its forward year (calendar 2012 in this case) have declined slightly, whereas earnings estimates for both SWKS and TQNT have declined. In other words, the view of ANAD has improved somewhat while the views for SWKS and TQNT has declined.

The forward estimates for RFMD have also declined, but notably less (more or less within the margin of error) on a relative basis when compared with SWKS and TQNT. Also working in RFMD’s favor is the fact it provided the most upbeat view of future prospects. SWKS and TQNT provided the least upbeat views.

The second factor that is providing ANAD with some relative support at the moment is the fact it is trading much closer to net cash value than any of the other three stocks. Please note, since ANAD is still eating cash and could fall another 35% from its current $2.17 price before hitting cash plus long-term investment value, it has not hit what I would call a "desperate bottom."

As I noted in a short post last week, I think it’s safe to assume the worldwide demand for both fiber optic components/subsystems and RF semiconductors will increase going forward. I believe the trends driving connectivity will accelerate, with the trend for mobile connectivity accelerating fastest. All connectivity drives bandwidth demand and, therefore, demand for fiber optic technology and any mobile connectivity requires the use of RF semiconductors.

While I think we have to acknowledge the risk the markets could go through some very ugly times between now and when these trends accelerate again in earnest, as well as the various company specific risks associated with any given stock, I think investors that can stomach what the markets might dish out in the short term should consider carefully accumulating stocks in these sectors on weakness.

With the failure of the supercommittee, the continuing problems in Europe, and the slowing growth in China, I think we are still playing with a deck that is overloaded with wild cards that no one can responsibly predict. Based on this view, keep a tight rein on risk management.

That said, if you have both a risk budget and a reasonably long investment horizon, accumulating shares of oversold stocks like those noted above will pay off over time.

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