Fisher Investments Editorial Staff
US Economy, Emerging Markets

PIIGS and Chips

By, 06/01/2010

Story Highlights:

  • Fitch cut Spain's credit rating to AA+ on Friday—discouraging news, but probably not a huge deal.
  • Eurozone growth still may not be great in Q1, but Emerging Markets growth more than makes up for it and is already lifting other developed nations.
  • Demand growth in developing Asia helped US exports rise, led by semiconductors.
  • Semiconductor production is an early cycle leader; this development shows the recovery has legs.


(Editor's Note: MarketMinder does NOT recommend individual securities; the below is simply an example of a broader theme we wish to highlight.)

After recent good news for PIIGS—successful debt auctions in Portugal, Spain, and Ireland, plus Germany's ratification of the EU-IMF bailout—jitters resurfaced Friday when Fitch downgraded Spain's credit rating.

Seems discouraging, but facts suggest the jitters (if not the downgrade itself) are based on near-term sentiment, not a spreading systemic issue. Fitch based their decision on what they viewed as lower growth prospects due to Spain's high deficit. Yet the market—always the best indicator—is far less concerned over Spain's ability to service its debt. Last week's auctions were a hit despite fairly ho-hum rates…and despite Standard and Poor's similar Spanish debt downgrade in April.

Still, expectations for eurozone growth are positive, though not stellar. We won't know the final tally until June 9th, but the most recent estimates pegged Q1's growth at 0.2%—low, though marginally better than expected. Yet this shouldn't derail the larger global recovery. Remember, Emerging Markets overall are as large as Europe—and their Q1 growth was brisk, with growth projected to continue strong. As they keep growing, they'll lift their developed friends.

You can see this already in increasing demand for US-made semiconductors. Semiconductor sales in the Asia/Pacific region were up 72% year-over-year in March, helping increase US exports in Q1. In fact, US exports have been climbing for a while, contributing to more than half of domestic GDP growth the last two quarters. The main engine of demand growth? You guessed it: Emerging Markets! In Q1, US exports to China—the third largest market for our goods—rose 47% year-over-year. Exports to Korea rose even higher at 66%.

Looking forward, things still seem bright as severely depleted inventories—a product of 2009's deep cuts—need restocking. Consider semiconductors again—the industry reported record order backlogs and lean inventories in April. Demand is up, and the industry is plenty capable of ramping up production to meet it. Capacity utilization also plummeted in 2009, and while it increased recently to help keep up with demand, there's still spare capacity and room for production to grow.

Which, incidentally, is exactly what Intel is doing. During the recession, Intel's capacity utilization bottomed at 50%. Now it's at 80%. Yet over the past two quarters, output prices have only risen 12% on average. Why the disconnect? The under-used existing manufacturing infrastructure allowed them to boost production without a corresponding increase in production costs—unlike if they had to build new factories. Similar circumstances throughout the manufacturing sector should allow production to keep increasing efficiently and cheaply.

Equally important for the economy at large, semiconductor production has historically tended to be an early business cycle leader. Production increases there tell us the beginning of this new cycle is firmly on track, and the economic expansion has a ways to go. And knowing stocks tend to lead the economy, it's another sign we can look forward to a good second half this year, even though we may yet see more volatility and jitters along the way.


*The content contained in this article represents only the opinions and viewpoints of the Fisher Investments editorial staff.

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*The content contained in this article represents only the opinions and viewpoints of the Fisher Investments editorial staff.


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