Semiconductor stocks and exchange traded funds started 2019 in fine form, but were hammered in May amid the intensifying US/China trade war.

As China faces the prospect of losing access to American technology, such as semiconductors, the nation is stepping up its own chip game with more resources thrown to help develop the sector. While experts are saying that the U.S. is years ahead of China in terms of chip technology, it could hurt the U.S. if China does catch up.

Up nearly 9% over the past week, the VanEck Vectors Semiconductor ETF (NYSEArca: SMH) is chipping away at its May losses. Indeed, SMH components have significant export exposure, particularly to China.

“Semiconductor companies generate a significant portion of their revenues by selling their products to Chinese companies and consumers,” said VanEck in a recent note. “Based on a geographical analysis of the revenues generated by constituents of the MVIS semiconductor index, over 30% of index revenues come from China, compared to approximately 21% from the U.S., as of April 30, 2019.”

SMH seeks to replicate as closely as possible, before fees and expenses, the price and yield performance of the MVIS US Listed Semiconductor 25 Index. The fund normally invests at least 80% of its total assets in securities that comprise the fund’s benchmark index. The index includes common stocks and depositary receipts of U.S. exchange-listed companies in the semiconductor sector. Such companies may include medium-capitalization companies and foreign companies that are listed on a U.S. exchange.

Semiconductor Rebound Can Continue

Semiconductors 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.

“Ultimately, a healthy trading relationship between the U.S. and China benefits semiconductor companies with a sizable revenue exposure to the Chinese economy,” said VanEck. “It’s important to note that China remains a key risk for semiconductors, whether that stems from a breakdown in trade relations, or a slowdown in the Chinese economy.”

Some market observers believe the rally in chip stocks can continue, particularly if investors remain enthusiastic about 5G. 5G technology will use a higher frequency band versus the current 4G technology standard, resulting in faster transmission of data.

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