Staying O/W EM Tech: We see recent pullback as a buying opportunity The Tech sector in EM has seen a pullback in the past month, given disruption worries in India and concerns on Chinese smartphone demand alongside rising inflation fears.

YTD, EM Tech stocks are up 2.4%, roughly in line with EM equities. In this report, we look at the near-term supply and demand outlook, assessing the potential implications of higher inflation, before concluding with which stocks to own. Tech remains one of our overweight sectors in EM, underpinned by steady underlying demand, positive earnings momentum and supportive valuations despite rising bond yields (Figure 17).

Underlying demand remains firm; prices up Demand has been steady: (1) we expect 8% smartphone unit growth in 2021 followed by a further 3% in 2022; (2) PC original design manufacturers (ODMs) are seeing demand exceed supply by about 20-30%, and we expect this to be sustained through Q3; (3) server demand has been and should remain robust. The latter is important, as servers have higher average selling prices. DRAM is in short supply for some customers, and 8-inch foundry and legacy 12-inch foundry capacity remains tight. This week, we have raised our 2021 global PC shipment forecast to 9%.

Inflation impact: Passing on higher costs to customers A combination of strong underlying demand and supply constraints have enabled tech firms, including brands, ODMs – server and other ODMs – to pass on higher component prices to their customers, thereby protecting profit margins so far. Semiconductor producers can be viewed as 'inflation hedges' as they are subject to DRAM price inflation themselves. Original equipment manufacturers (OEMs) and hardware producers could be more vulnerable, as some end-products, such as high-end smartphones, have likely reached their temporary price ceiling.

Strong earnings momentum; preference for memory semis In the past three months, consensus 12m forward EPS estimates for EM IT have gone up 8% (Figure 11), the most since 2017, further underpinning valuations – especially compared to DM peers (Figure 16). Our top picks include Samsung (APAC Key Call) and SK Hynix, which looks well placed for the memory cycle ahead. We also like TSMC (technology leadership), SEMCO (earnings resilience), Eugene Tech (qualification programmes), Asustek (strong global demand), Quanta (earnings resilience), Hon Hai (APAC Key Call), Hikvision (AI upside) and Dahua (surveillance growth). In contrast, our least favoured stocks include LG Electronics, LG Innotek, Pegatron, HCL and Cognizant.