As has been widely documented this year, semiconductor stocks and the related ETFs have been beacons of strength in the broader technology sector. Some market observers expect that trend to continue, which should benefit funds such as the VanEck Vectors Semiconductor ETF (NYSEArca: SMH), which is already up about 25% year-to-date.

Over the course of market history, different industries have taken turns being important tells regarding broader market health. These days, some market observers believe semiconductor stocks and the related exchange traded funds are those tells.

Semiconductor have exhibited high sensitivity to the trade war because China is a strong driver for the chip-making sector, which includes several fast areas of growth including gaming and artificial intelligence. If the trade war is renewed, the barriers will raise costs for many of these multi-national companies.

“Technology snapped back nicely in early 2019 with some optimism that the U.S. and China can reach trade agreements and avoid a full-blown trade war, an issue that caused the markets and the tech sector to fall in the fourth quarter,” said Morningstar in a recent note. “We continue to believe that tariffs and/or the lack of a trade deal may weigh on the health of the Chinese consumer and disrupt a highly interwoven tech supply chain that would be quite difficult for the U.S. and China to unwind.”

Still Some Value

While semiconductor stocks have been technology leaders this year, there is still some value to be had in the bellwether group.

“Despite the recent rally in tech and in semiconductors specifically, we still think semis are the most undervalued subsector in technology, as about 30% of our coverage is 4-star-rated or higher and the median chip stock is about 4% below our fair value estimate,” according to Morningstar.

Among the semiconductor names Morningstar is bullish on is Applied Materials Inc. (NASDAQ: AMAT). That stock is SMH’s ninth-largest holding at a weight of 4.54%.

“We believe wide-moat Applied Materials’ shares are trading at an attractive discount,” said Morningstar. “The company has benefited greatly from the sharp rise in spending by memory and display chipmakers over the past few years, though recent customer commentary suggests a near-term pullback in spending for each subsegment (especially in 3D NAND memory and OLED displays). Although we think total wafer front end spending will be modestly lower in 2019, we foresee Applied leveraging the breadth of its product portfolio and services business to navigate this softer demand.”

For more information on the tech sector, visit our technology category.

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