Slowly but surely politicians in Washington and Beijing are splitting the internet in half, and that is bad news for innovation and technology investors.
The Chinese foreign minister in September announced new initiatives for global data security, clearly aimed at curtailing efforts by the Trump administration to isolate Chinese technology companies.
It’s too little, too late. Investors should lighten up in select technology shares.
For the better part of two years President Trump and his advisors have been intent on killing Huawei, the giant telecommunication equipment maker. Hawks in his administration see the Chinese 5G leader as a threat to American national security. With every global installation of its next generation wireless networks, the perceived threat grows.
President Trump in 2018 signed an executive order that forbid Huawei from selling telecom gear in the United States. A year later, placement on an entities list forced American companies to obtain a special license to sell products and services to Huawei, effectively choking off the supply of key components. The Commerce Department in May went one step further, maneuvering so that even foreign companies could not work with the firm.
Huawei, once a vibrant firm with $100 billion in global sales, is now struggling to survive.
Emboldened, the White House has started to broadened its attack. Using some of the same tools and rhetoric, Mike Pompeo, State Department chief, targeted other best-in-class Chinese firms, ByteDance, the parent company to TikTok, and Tencent Holdings, maker of WeChat, the biggest social media platform in the Far East.
The Clean Network program, announced in August, aims to prevent dominant Chinese firms from all internet infrastructure used by the United States and its allies. If successful, the State Department program would necessarily bifurcate the internet.
Ironically, it’s the Chinese who are now pushing the international community in the other direction. Its Global Initiative on Data Security calls for the development of open, evidence-based rules for networks and the supply chains that make them possible.
It’s a big role reversal for a country that has for decades manipulated the rules to advance smaller Chinese firms. Forced joint ventures often transferred intellectual property from their American and European partners.
And that’s the larger problem.
While Chinese state officials are now sounding the right notes about fairness and oversight, it’s only to protect Chinese businesses from the same hardball tactics that led to their growth. The Wall Street Journal notes that officials have accused the United States of trying to sabotage Chinese expansion.
Investors need to look past the rhetoric and weigh the likely resolution. Sadly, it’s not pretty.
A bifurcated internet means two distinct silos of hardware supply chains. That’s a nightmare outcome for American semiconductor firms that are by far the market leaders in terms of innovation and sales.
Semiconductor equipment makers Applied Materials, Lam Research, and KLA Corp. are down 12.3%, 17.1%, and 12.1% from their August highs. Specialty chip makers Micron has shed 21.1%. All of these businesses have substantial Chinese sales. That business is now in peril as the market for microprocessors gets divvied up.
Analysts in the past have pointed to other scares during the prior two years and recommended new purchases. The current weakness may bring a similar market call. If the semiconductor equipment, and special chip stocks rally in the near term investors should use that strength to close positions. Politicians are pushing past the point of possible good outcomes.
The risk today is larger than ever before that the Chinese chip market is being forfeited.