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SOX Racehorses Taking Less to Get Running

Chip investors again find a silver lining in dubious news.
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Chip stocks are off to the races again in what has become the customary reaction to practically any news in the sector whatsoever.

Wednesday's fuel is a widely followed report from the Semiconductor Industry Association that showed shipments of equipment used to produce chips fell slightly faster than orders in September. The resulting increase in the ratio that measures the relationship between these two negative trends -- from 0.63 to 0.65 -- sent the Philadelphia semiconductor index up 2.5% and underpinned a minor rally on the

Nasdaq.

"It's now a 'buy-on-news' mentality," said Steven Pelayo, an analyst with Morgan Stanley. "Let's get back to OK. All that bad news is in the story; let's look at the other side of the canyon."

Back on the canyon's near rim, Wednesday's report showed that orders for new equipment fell 11% to $644 million in September from August, while shipments of previously received orders fell 13% to $993 million. The fall in September shipments was the 11th-straight monthly decline.

"As we get into late first quarter and second quarter, a combination of lean inventories and an improving macroeconomic picture will be ingredients for a healthy snapback for the markets," Paleyo said. "For now, we're rolling on the bottom."

Investors gambling on the semiconductor complex are increasingly involved in a game of either high sophistication or high idiocy, depending on your perspective. The sector has come to be viewed by many as a pure-play bet on the economy's future, meaning that if stocks are generally a forward-looking indicator, semiconductor investors must have binoculars.

Before Wednesday, you have to go all the way back to Monday to find the last big chip move. The SOX popped almost 5% on word that the industry's recently faltering standard-bearer,

Intel

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, planned to cut 2002 capital spending by 10%-20%. Intel's refusal to reduce its $7.5 billion annual capital-spending budget was supposedly one of the reasons the industry hadn't collapsed further in 2001, but the company said the events of Sept. 11 had impaired visibility to a degree that spending probably would have to come down next year.

More dubious cheer was evident in the commentary that went along with several earnings reports before Wednesday's open. In explaining a 32% decline in revenue and a $19 million third-quarter loss,

Fairchild Semiconductor

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pointed out that many of the trends it's seeing are "consistent with the beginning of the end of a downturn." Among them: higher turns orders and "low backlog visibility." Its shares were up 10% to $22.11 in early afternoon trading.

Other news has been harder to celebrate. On Oct. 15, Lehman Brothers lowered its rating on a group of semiconductor equipment makers, saying that the timing of a recovery continues to be pushed out. Lehman downgraded

Applied Materials

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,

Asyst Technologies

(ASYT)

,

Axcelis Technologies

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,

Cymer

(CYMI)

,

KLA-Tencor

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,

Kulicke & Soffa

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,

LTX

(LTXX)

,

MKS Instruments

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,

Novellus

(NVLS)

,

PRI Automation

(PRIA)

,

Teradyne

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,

Varian Semiconductor Equipment

(VSEA)

,

Zygo

(ZIGO)

and

Adept Technology

(ADTK)

. With the exception of KLA-Tencor, Lehman no longer recommends purchasing shares of U.S. companies in the semiconductor production equipment sector.

The same day, J.P. Morgan downgraded several companies in the communication integrated-circuit arena to market perform from long-term buy, saying that order flow remains weak and visibility is still poor. When the chipmakers themselves are suffering from low orders, the companies that make the equipment used to manufacture the semiconductors should see a corresponding drop.

Altera

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,

Xilinx

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,

Applied Micro Circuits

(AMCC)

,

PMC-Sierra

(PMCS)

and

Vitesse Semiconductor

(VTSS)

all made the downgrade list. The firm also said a revenue decline is likely in the foreseeable future. J.P. Morgan doesn't expect a stabilization in inventories until the second quarter of next year at the earliest.

Lately, the gloom hasn't kept the buyers at home.

"People want to be involved. Right now the news is kind of neutral so people are apt to buy," said Michael O'Brien of Wit SoundView. "We're getting closer to a bottom."