Business is healthy, although upside to estimates is now difficult to come by. Furthermore, elevated inventory and stretched lead times leave no margin for error as any lead time adjustment or demand slowdown could drive a meaningful correction. Risk/reward is the poorest it has been in 3 years.

We had become less constructive on semi stocks through the year and given growing cyclical risk we're now moving to Cautious on the group. We favor connectors (APH, TEL) over analog/MCU at this point in the cycle, due to lower risk around lead time issues (low to mid single digit weeks vs. double digits) and less exposure to distribution (15-20% of sales vs.50-60%), where risk of an inventory correction is greatest. In terms of stock positioning, we have a strong preference for high margin and more defensive models (ADI) over lower margin and commodity exposed models (CY, ON). In contrast to our cyclical concerns, we highlight Overweights in NVDA, XLNX,and AMBA that should benefit from secular growth in the area of AI, data center,and autonomous.

Our move to Cautious on the group dovetails with the Morgan Stanley Strategy team's recent lowering of Tech to Underweight. Looking across our semiconductor coverage, the average upside to our price targets is only 5% compared to over 20% downside in our Underweights.Finally, deteriorating US/China trade relations likely prevent large scale M&A (i.e., QCOM/NXPI deal break) for now, serving to remove a previous tailwind to the group.

Source : Morgan Stanley Research
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