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Chip Stocks' Dizzy Days

The alternating good and bad news makes it hard to get a read on semiconductors.

Making a prognosis for the troubled chip sector is no easy task these days.

After some encouraging hints that a recovery was around the corner, chip stocks have fallen into a rut.

The latest bearer of bad news is

RF Micro Devices


, which makes chips for cell-phone handsets. Late Wednesday, RF Micro said

revenue, earnings and profit margins

all would decrease sequentially in the coming quarter, due primarily to a slowdown in demand from a top-tier customer.

Jefferies followed up the announcement by downgrading RF Micro to hold from buy, helping to send down the company's shares almost 11% on Thursday -- and dragging down other chipmakers with it.

The Philadelphia Stock Exchange Semiconductor Sector Index slid 2% early in Thursday's session, before recovering some ground to close down nearly 1% to 464.71. The index has traded within a roughly 10% range for nearly seven months.

RF Micro's weak outlook was particularly jarring to chip watchers, given that it pointed to demand problems persisting at about the time when

other chipmakers had suggested business would start improving.

Earlier this year,

Analog Devices

(ADI) - Get Analog Devices, Inc. Report


National Semiconductor

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both indicated that bookings were exceeding billings -- a sign that growth should resume soon.

Those optimistic notes may have amounted to "head fakes," observes one investor who is short semi stocks.

Sales of chips began slowing in the second half of 2006, as a buildup of inventory in the distribution channel caused customers to pare back orders. The question hanging over the semiconductor industry now is whether the inventory glut is indeed behind it or if stockpiles still need to be worked down before sales can come back.

Pat Adams, chief investment officer of Choice Investment Management, says he believes the end of the inventory correction is at hand, but notes that chipmakers might not all emerge from the downturn in lockstep.

"Wall Street always expects a one-quarter snapback. That doesn't happen in real life," Adams says.

National Semi was among the first companies to get dinged by the inventory correction. So it's not inconceivable that it would recover sooner than other chip firms that suffered the ill effects of the glut later on.

Texas Instruments

(TXN) - Get Texas Instruments Incorporated Report

, for instance, was among the

last chipmakers to feel the pain. Yet the company is already ramping up chip production in its factories in anticipation of a demand recovery, something Adams believes could "come back to hurt them."

The impact of an end to the inventory correction might also be muted by the seasonally slow time of year. Many analysts expect the second half of the year -- when chipmakers start taking orders for the back-to-school season and holiday products -- will provide the real catalyst to chip stocks.

And a choppy economic backdrop hasn't been much help for chipmakers, whose fortunes are increasingly tied to sales of consumer electronics rather than less-volatile corporate and industrial technology products.

Earlier this week, the government reported that consumer confidence in March dropped even more than expected. And rising oil prices, as well as continued attention to inflation in the wake of

recent comments by Federal Reserve Chairman Ben Bernanke, also are contributing to concerns.

"There are still a lot of questionable economic data points out there," says Bill Gorman, vice president of equity research at PNC Advisors, which is currently limiting its semiconductor holdings to Intel.

"I just think right now there have been some reasons for people to take some profits," Gorman says.