☀️☕ [Better late than never!] Making The Machines That Make Chips (ASML)

Happy Friday! Oops

Due to technical issues, Friday’s email version was… missing from your inboxes. Rather than let it go to waste, we’re issuing it slightly behind schedule. Better late than never, right?

Market Roundup 📊 10-Mar-23

US large-cap S&P 500 closed 1.85% DOWN 🔻
Tech-heavy Nasdaq Composite closed 2.05% DOWN 🔻🔻
Pan European STOXX Europe 600 closed 0.19% DOWN 🔻
HK’s Hang Seng Index closed 0.63% DOWN 🔻
Japan’s Nikkei 225 closed 0.63% UP ▲

— The MoneyFitt Morning (@MoneyFitt)
Mar 10, 2023

📝 Focus

Making The Machines That Make Chips (ASML)

📊 In the Markets

Hole-y Balance Sheets, SVB!!! (US banks)

Sayonara, Gov. Kuroda, Sayonara YCC? (JGBs)

📖 MoneyFitt Explains

🎓️ Semiconductor Sector

📝 Focus

Making The Machines That Make Chips (ASML)

Last year, the White House imposed export controls to limit China from accessing the most advanced semiconductor chips, and has been applying pressure to other countries to impose similar restrictions. But the efforts are also applied to semiconductor manufacturing equipment companies as having those would naturally mean China’s chipmakers (both integrated players and pure foundries🎓) could themselves manufacture more advanced semiconductors, which would have major military and advanced artificial intelligence applications.

►In response, the Dutch government has imposed export restrictions on “advanced” semiconductor manufacturing equipment because the small European country is home to ASML, which makes the equipment that makes the most advanced semiconductors. By market value (share price X number of shares) ASML is the fifth-largest semiconductor company in the world and the largest in Europe. Globally it’s larger than the likes of AMD, Qualcomm and Intel, and is the largest semiconductor manufacturing equipment company by far, ahead of Applied Materials, Lam Research, Tokyo Electron and KLA Corp.

“This decision was really a unilateral decision… ​​The Biden administration did their thing on Oct. 7 and we are doing what we are doing based on our own assessments.”

Dutch Trade Minister Liesje Schreinemacher, who also called for EU-wide coordination.

► The company has two sources of revenue: Selling the equipment itself and subsequently servicing it, an attractive source of recurring revenue. The Dutch trade minister has yet to decide on the servicing and replacement of parts for existing machines (or even on a clear definition of “the most advanced” since there have already been restrictions on ASML’s very top of the line machines since 2019.)

Brainiac chips need brainiac chip-making equipment
Image credit: Tenor

► Making semiconductor chips involves “lithography” in which ultra fine patterns of electrically conductive metals are etched with light projected through a blueprint then shrunk and focused using advanced optics onto a photosensitive silicon wafer. ASML is the largest maker of the most advanced lithography equipment, with an effective monopoly.

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📊 In the Markets

US markets had a minor rally in the early part of the day as Wall Street’s Finest decided that, as usual, the more Americans who lose jobs the better. There were 211,000 new applicants for unemployment benefits last week, the highest increase over the previous week (190,000) in five months and a little higher than experts’ best guess average at 195,000.

► Any weakening of the red-hot labour market is seen as a positive for markets as it reduces the risk of interest rates being hiked ever higher, since workers can, in a simplistic worldview, more easily demand higher wages to cover higher prices, which raises company costs, which are passed on –with extra padding for profits when they can– in higher prices, and on and on.

Then by lunchtime the broader market seemed to notice that the banks had been cratering from the open. By the end of the day, Bank of America and Wells Fargo had both dropped 6.2%, with JPMorgan and Citigroup close behind, down 5.4% and 4.1%, triggered by the liquidation of crypto-friendly Silvergate (SI) and emergency fund-raising by much bigger tech-friendly Silicon Valley Bank (SIVB).

► The combined evaporation in a day of market value in those 4 banks comes to US$52 billion, more than the $45bn market cap of SIVB at its 2021 peak, before sliding ~86% to today’s $6bn (including Thursday’s 60% one day drop.) It was once the 16th largest bank in the US by assets. See below.

At the same time, (or possibly market commentators trying to explain a falling market) the narrative switched to worrying about Friday’s closely watched non-farm payrolls report for February. Traders sold down on expectations that the number may come in higher than their expectations ( ¯_ (ツ)_/¯you read that right) particularly after “hawkish” testimony earlier on in the week from Fed Chair Jerome Powell.

► Interest rate futures actually implied a slightly lower probability of a 0.50% hike at the rate setting meeting in 12 days than after Powell’s first day, and also showed expectations of earlier and deeper CUTS.

The first rate cut is getting sooner. The blue boxes are the highest probabilities in that month, implied by futures prices (not forecasts by “experts.”)
Image credit: CME FedWatch Tool

Hole-y Balance Sheets! (US banks)

We wrote about Silvergate (and a bit about SIVB) in yesterday’s MFM, but in brief:

– Both took real money deposits from one industry and, as banks do, they invested in safe but long-dated bonds.

– A LOT of deposits flooded into those banks so a LOT got invested, but then interest rates shot up, destroying the values of those bonds (long-dated bonds are especially sensitive).

– THEN, for whatever reason, that concentrated deposit base vanishes and those bonds have to be sold, crystallising losses and blowing up the bank’s balance sheet, which for a regulated bank is very very bad.

“I would ask everyone to stay calm and to support us just like we supported you during the challenging times… If everyone is telling each other SVB is in trouble, that would be a challenge.” 

Silicon Valley Bank CEO Greg Becker, pleading to VCs not to yank deposits and trigger a full-blown bank run of the sort that killed Silvergate. That should do it.

► We also wrote about how losses in bonds aren’t “realised” if they’re listed as “held-to-maturity” since the value doesn’t have to be calculated based on current market prices the way “available-for-sale” bonds are. For SVB, it lost $1.8bn based on selling $21bn of its AFS bonds (basically all of them, and quickly.) That leaves it with only HTM bonds, which at the end of last year were in the bank’s books at their purchase price of $91bn rather than their $76bn market value. Unrealised losses of $15bn are not great when your value in the market is $6bn, even if you get the $2.25bn you’re asking for.

Don’t call it a (bank) run… it’s a “slowdown in fundraising and exits as well as increased client cash burn” at Silicon Valley Bank
Image credit: Fresh Prince / NBC via Tenor

► Most investors don’t really care THAT much about SIVB. But the entire banking sector is another matter. SI and SIVB had very concentrated deposit bases, which left them exceptionally vulnerable, but the losses on the bond holdings will be seen across the sector, with roughly $620bn of combined unrealised losses, which is over a quarter of the industry’s overall equity of $2.2tn. (Realised losses last year were just $31bn.) Doesn’t seem like a crisis as most banks will stay solvent, but the focus today is on some very large potential losses… even if interest rates stay where they are. (Which they won’t.)

Sayonara Gov.Kuroda… Sayonara Yield Curve Control? (JGBs)

The Bank of Japan’s outgoing Governor, Haruhiko Kuroda, will have his final interest rate policy meeting today. Most economists are expecting no change in rates, but are on the lookout for any hint of an end to the market-distorting yield curve control (YCC) programme.

►​​ Deutsche Bank recently pointed out that the BOJ may have bought more than 100% of some Japanese Government Bonds (JGBs) as it buys them up, then lends them out to short sellers who then sell them in the market where the BOJ scoops them up again. Some estimates show the BOJ owning 140% of the most recent run of 10-year JGBs.

► Supporting the idea that the BOJ​​ will maintain ultra-low interest rates, ​​Japan’s economy posted just 0.1% annualised growth rate for the last quarter of 2022, pulled down by weak private consumption (around 57% of Japan’s GDP.) Analysts were expecting much faster growth of 0.8%.

Japan’s “easy money” policy will likely continue given anaemic domestic growth data.
– Image credit: Our Gang (Little Rascals) / Hal Roach, WBD via Tenor

📖 MoneyFitt Explains

🎓️ Semiconductor Sector (logic/memory, foundry/fabless, equipment)

Semiconductors are the basic building blocks of an ever-widening range of electronic products, far beyond just computers and electronic items. The word’s often used interchangeably with “microchips” or just “chips.”

Chipmakers generally focus on one of two major product groups

1) memory chips (DRAM etc, not storage – e.g. Samsung, Micron) and

2) logic microprocessors (CPUs and GPUs – e.g. Intel, Nvidia)

But there is another distinction: Whether or not they have their own factory (foundry, fabrication plant, or “fab”) or not (“fabless”, where they just do the design, such as Qualcomm, Broadcom, Nvidia… and Apple.)

A fabless semiconductor design house needs its chips built by a contract manufacturer or foundry, which invests enormous sums in its plant, equipment and, as importantly, people and processes. TSMC is by far the largest, most advanced and most profitable foundry in the world.

(Semiconductor equipment makers are quite separate – e.g. ASML, AMAT, Tokyo Electron, which supply the advanced equipment that both integrated players and foundries rely on.)

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