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Chip ETFs Down, May Be Out for a While

Semiconductors have been one of the worst-performing sectors in 2008.

So far this year, the Dow Jones U.S. Semiconductor Index has fallen 44.8%, while the S&P 500 is down 33.9%. Semiconductor ETFs have similarly felt the agony of the selloff. The PowerShares Dynamic Semiconductors Fund (PSI), the Semiconductor HOLDRs Fund (SMH) and the SPDR S&P Semiconductor ETF (XSD) have seen respective year-to-date declines of 39.4%, 39.09% and 35.3%.

Investors who have taken the other side of the trade have fared much better. Of the 812 ETFs tracked by Morningstar, the top-performing ETF has been the UltraShort Semiconductor ProShares Fund (SSG). The fund is designed to return shareholders twice the inverse of the daily performance of the Dow Jones U.S. Semiconductor Index.

The semiconductor industry's transition in focus from businesses to individuals has been part of the downfall this year as consumers have been reining in spending. "Over the past 10 years, there has been a fundamental shift from corporate IT to consumer demand," said Ken Nagy, a senior analyst for Zacks Investment Research. "The shift will continue in the years ahead, as consumers all over the world are captivated by the richness and portability of digital media."

This trend could lead to additional challenges for semiconductors. "This shift leads to seasonal demand in the sector," Nagy said. "It also leads to the potential for more commoditized products and average selling price erosion."

Demand Destruction

Betsy Van Hees, a vice president and semiconductor analyst for Caris & Co., agrees with Nagy that this shift is a major concern for the sector. "The biggest risk for the sector right now is a slowing of demand," she said. "And if consumers continue to be cautious, we could see a further slowing of demand."

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