Want a better tech investment? Look to suppliers: ECP

Investors looking to profit from the extraordinary ascent of the tech sector – and notably chipmakers like Nvidia, which saw a market cap growth of more than $1 billion over the last year – with less risk should consider investing in safer bets like industry suppliers, according to Annabelle Miller, principal at Australian fund manager ECP Asset Management.

Miller warned investors not to get “carried away with market euphoria” that surrounds surging technology stocks, recommending instead to “focus on high-quality companies with strong fundamentals” – these supplier companies, she added, are “positioned to benefit from the huge growth in long-term demand for semiconductors”.

Indeed, a focus on suppliers rather than product makers will give investors “exposure to the structural growth tailwinds of the semiconductor sector without the same degree of technological risk or product failure”, she said.

“These companies are likely to keep generating large amounts of cash that can be reinvested back into their businesses.

Miller added: “They are well positioned to ride out the volatility of stock markets and remain resilient in the face of both known and unknown challenges.”

Who are the most attractive chip suppliers?

Miller recommends “quality” supplier companies, including Japanese firm Advantest, which creates test equipment for semiconductors, and Dutch firm ASM International (ASMI), which specialises in wafer processing.

She said both are market leaders in their fields with strong earnings forecasts.

“[These companies] are key suppliers to leading semiconductor manufacturers such as Nvidia and AMD, with rising demand triggered not only by AI products such as ChatGPT, but the growing worldwide demand for advanced computer chips generally,” Miller said.

Notably, these companies, which supply to multiple chipmakers, carry neither the same degree of technological risk nor product failure as chipmakers like Nvidia or AMD, and yet both benefit from being a critical part of their supply chains.

In the past year, ASM’s share price has grown by 72% on the Amsterdam Exchange index, and over the past five years has surged by more than 1,055%.

Advantest, listed on the Tokyo exchange, has seen an impressive 165% jump in its stock price over the last year, and a more than 942% increase over the last five years.

Other than Nvidia, these suppliers have outperformed all of the other ‘Magnificent 7’ stocks (Apple, Alphabet, Amazon, Meta, Microsoft, and Tesla).

While Miller concedes that analysts’ expectations for the future returns of these companies have tempered somewhat, they are still viewed as “extremely high-quality businesses with a long runway of growth ahead of them”.

“Both AMSI and Advantest may be better positioned to withstand market volatility. Neither [carries] the same degree of technological risk or product failure as Nvidia or AMD, but both benefit from the rising global spending on semiconductors,” she said.

Both companies’ fundamentals remain strong, Miller stressed.

“ASMI is a key supplier to leading global foundry, TSMC, and is enjoying strong earnings growth and widening profit margins as investment pours into semiconductor production. So, it is a growth company, but quality too.”

Advantest, she also noted, plays a critical role in improving semiconductor yields.

“The growth in test intensity is underpinned by greater semiconductor complexity and production. The close relationship with the end customer from the beginning of the product development journey underpins Advantest’s competitive advantage,” Miller said.

For Miller, these supplier companies serve as the ‘picks and shovels’ of the semiconductor industry, and benefit from the continuing advance of Moore’s Law – that is, the doubling, every two years, of the number of transistors that can be built into a computer chip.