Dear Reader,
Welcome to the weekly mailbag edition of The Bleeding Edge. If you have a question you’d like me to answer in a future edition, write to me by clicking right here. Let’s get started…
Between the threat of China knocking on Taiwan’s doorstep and the AI advances, are we missing out on TSMC? Or just switching to more safety with AMD? Thanks,
– Kurt F.
Kurt, this is a great question. For readers that need a refresher, Taiwan Semiconductor Manufacturing Company (TSMC) is the world’s largest semiconductor fabrication facility (Fab). And while the company has been diversifying its business to other locations, the bulk of the semiconductor manufacturing still happens in Taiwan.
China invading Taiwan would be a catastrophic event for TSMC… and much of the stock market. This is why having a good risk management strategy is so important.
Setting a stop loss or trailing stop allows investors to manage the level of risk they’re comfortable with. For instance, we may expect a given stock to fall 20% just from normal market gyrations. In that case, we might choose to set a stop loss 25% below our entry price.
That means we’d sell the stock if it made a move outside of its normal range. That’s to prevent an outsized loss that’s difficult to recover from.
If you lose 25% on a stock, you only need a 33% gain on that remaining capital to break even. That’s very doable.
If you suffer a 50% loss, you need to make a 100% gain to recover. An 80% loss requires a 400% gain. Those types of losses are very difficult to recover from.
That’s why I use a stop-loss strategy in every position to lessen the extent of losses.
As for TSMC and AI, it represents just around 6% of the company’s total revenue today. That’s largely because the volume of GPU chips is relatively low in comparison to other chips TSMC manufactures. The pricing power is at the chip designer level (Nvidia, AMD), so that’s where I anticipate significant revenue growth to come from.
Don’t get me wrong, a China invasion of Taiwan would negatively impact Nvidia, AMD, and the entire chip industry – but the downside is always protected with risk management. The AI upside will reach the chip designers because the volumes are just too low for TSMC in comparison to its other business lines.
From “The Deal of the Century” Bleeding Edge issue, are you recommending that we buy Apple or Disney? If so, why don’t you say it? If not, what is your point?
– Walter Z.
Thanks for writing in, Walter. For readers that didn’t catch it, Walter is referring to The Bleeding Edge on July 20 about a potential deal between Apple and Disney. You can read the article here.
Apple is a company I’ve been a fan of for a long time. But investors have to be careful not to be overexposed since Apple carries a large weight in most index or passive funds. That means if you own a board market index fund, you indirectly own a decent amount of Apple shares.
Even if you don’t own any index funds, Apple stock isn’t always a great buy. Right now, I think it’s overpriced primarily because the core products’ business growth is slowing.
The company also relies fairly heavily on subsidies from carriers to support the price of the phone. Lacking these subsidies, Apple likely doesn’t have much upward pricing power on its devices.
As for Disney, the parks division is lucrative and has a competitive advantage. If that business was separated from the media business, it certainly would be a good buy at the right price.
Disney faces more competition in its media and pro-sports business. That’s making the overall business less profitable. A major shake-up in how Disney is structured could create great buying opportunities. Not just in these businesses, but in others as well.
I won’t always write about ideas that are immediately actionable. I also like to share what I’m watching and any insights I might have on what’s to come.
I’m confused. You have talked about Nvidia and AMD manufacturing chips and the chips they produce for the AI market. And then there are other manufacturers such as Intel, ON, etc.
However, in your Bleeding Edge issue on July 24, you said, “TSMC manufactures virtually all high-performance AI chips being used today.” Your statement seems inconsistent; can you clarify? Thanks,
– Greg L.
Greg, great question. Nvidia and AMD are chip designers… not manufacturers. Both outsource their designs to TSMC which actually manufactures the chips. This is known as a “fabless” model, and it’s become fairly standard in the industry.
That’s why you may hear TSMC referred to as a “foundry.” The term is used to say that TSMC makes the chips based on the specifications of the designers.
Going forward, I’ll be more mindful of making this distinction clear when speaking about semiconductor companies.
Colin, what about the defense industry which is early ahead on AI benefit systems? Never have I read a recommendation on this or other large-cap services to buy in other industrial blue chips… seems more in the sexy dark horse or unicorns.
Thanks and keep going, Colin! Hope to make some profits on good investments, not speculative ones.
– R.M.
Thanks for the question, R.M., it’s a good one.
Right now, I look at AI as two industries – hardware and software. On the hardware side, there are very few players. This is because it takes years to design, test, and launch an AI hardware chip.
A few additional options will come onto the market over the next 12 months, but it will still be primarily Nvidia with a clear advantage in hardware. That means the defense industry is largely relying on the same hardware as what is available in the open market.
On the software side is where things will get more interesting. The ability to build and scale software is faster than hardware design. There are a few defense AI-based companies that are on my radar.
The amount of software and services that will be coming to market soon will be staggering. Companies like Microsoft will be the first to market – but many great investments in this space are coming. I spend the bulk of my time researching these, and I can’t wait to share them when the timing is right.
Hi Colin, 2023 is driven by AI. I heard that 2024 will be driven in part by the financial sector and that investment in small regional banks (ETFs, too) is highly recommended. Could you please provide information and recommendations on this topic?
– Maibelynda N.
Thanks for the e-mail, Maibelynda. I believe this is a wise observation for two reasons. First, the banking sector has largely lagged behind the broader markets this year – particularly the regional banks.
We’ve already seen after this round of bank earnings that there’s more durability in this sector than was believed by Wall Street. In other words, the fear around the banking sector got a bit extreme – and that’s usually a good time to start getting interested.
The second reason relates to AI. Studies show that it’s financial sectors that will utilize AI in a major way. We’re already seeing this with fraud detection and, to a lesser degree, loan originations.
I see a world where most loan originations are AI-based. That will have a profound impact on the banking sector and lending in general. Obviously, this industry has compliance, legal, and privacy regulations that it has to navigate before layering on AI technology in a major way, but that will be a huge growth driver for the banking sector in the years to come.
Hi Colin, as a reader of The Bleeding Edge and member of the Near Future Report and Exponential Tech Investor the articles pumping up the AI umbrella plays and subplots are nice, but what is the bottom line as an investment strategy?
If the big players are already in play and as you said will be even bigger (Microsoft, Apple, Meta, Google, etc.) should we buy in some, even at exorbitant P/E ratios? Near Future plays were into more stable and established blue-chip stocks.
Even if you will not add to the portfolio, can or will you suggest buying into a position if interested in balancing out the portfolio, since you keep mentioning that? And I agree these companies are BIG, diversified, ahead in AI, and not likely to fold on correction in markets. Just looking for income, profits, reasonable returns, and less grand slam unicorns in the game.
– R.M.
Thanks for writing in again, R.M. This is a great question. The mega-cap stocks have certainly been on a tear, and, in some cases, are likely ahead of themselves in terms of valuation.
I always believe discipline and patience pay off in the stock market. There’s absolutely going to be a great time to add or start a position in one of these companies. Because I research and understand these companies so well, I rely almost exclusively on the technical chart patterns to decide when to buy them.
Yes, the rallies in these names have been large, and the momentum is still looking good. However, that will reverse itself, and the corrections stand to be sizable. Rest assured, I monitor the chart patterns of these stocks daily, so when the time is right, I will send out a recommendation right away.
So, to summarize: We will likely look to add some of these larger names to our portfolio. I just believe we’ll have better prices somewhere down the road. In the meantime, we’re focusing on the lesser-known beneficiaries of the AI trend.
That could include “innovators” like AMD that haven’t captured as much attention. Or it could be “adopters” like Adobe that are using generative AI to produce new and compelling products.
Regards,
Colin Tedards
Editor, The Bleeding Edge