As the Iran conflict continues into its second week, it seems that certain pockets of the market are starting to accept that a convenient offramp just doesn’t exist, despite the urgings that the exchange of blows might be over soon.
Energy prices are back on the rise, despite efforts to arrest oil prices from going higher through the release of nearly a billion reserve barrels of oil. Agriculture names are also taking off, as investors realize how the shutdown of critical shipping lanes in the region might affect fertilizer supplies as Spring plant begins. And aerospace and defense names have risen for, well, unfortunate but obvious reasons.
Energy, agriculture, and defense names have all jumped, reflecting the increased geopolitical uncertainty. And yet, taken together, it seems investors in AI land remain in a stupor about the possibility of a “black swan” in the electronics industry.
What’s wrong in the Middle East?
Iran’s new Supreme Leader, Mojtaba Khamenei, said this morning that the Strait of Hormuz should “remain shut” in remarks on state TV. The all-important shipping corridor is an important passing for energy products, as well as industrial chemicals and compounds used in everything from fertilizer to semiconductors.
We’ve touched on a few of the impacts of the Strait’s closure in previous pieces in TheStreet Daily, but we’ve only brushed at the impact on Asia, which includes advanced economies which are instrumental to computing and the AI boom.
Asian countries import the vast majority of their oil and liquefied natural gas (LNG), over 80% in total, which is an obvious chokepoint for countries. Some, like China and Japan, keep massive stockpiles to avoid their energy supplies being ensnared by geopolitical uncertainty.
However, others like Taiwan and South Korea, both instrumental in the global semiconductor industry, don’t boast as much room for stockpiles. That could mean that the countries are forced to energy ration. And this is just one example, as there are other chokepoints which can threaten even the most “advanced” economies.
One of these points has been fertilizer: key ingredients like ammonia, urea, sulphur, and phosphate rock are derived from natural gas production in the region. And knowing how big the oil & gas industry is in the Middle East, it should be no surprise that at least a third of the world’s nitrogen fertilizers are produced here. They’re also stuck there right now, representing a potential risk to global food security.
The effects are potentially even more dire on semiconductor manufacturing, because you can always grow soy or corn without fertilizer, but making technological wonders in clean rooms? Well, it turns out you need every material on your shipping list. And as the Strait remains shut, fabs might be cut off from materials in the region.
Among them are helium, another byproduct of LNG production which boasts no substitute in the industry; the inert air helps cool chips and make manufacturing possible. Prices have already soared, reflecting the loss of a significant source of global helium.
Other materials like bromine (used for carving; flame retardant), sulfur and sulfuric acid (for cleaning), and other specialized gases or equipment are also a potential supply chain worry.
An AI black swan?
The assumption is that the ongoing conflict will end in just a few weeks; a generous assumption based on comments by Iran’s new Supreme Leader. If that were the case, the “safety” stocks boasted by major chipmakers in the region like Taiwan Semiconductor, SamsungElectronics, and SK Hynix should cover their bases.
If everything really is over in a month, then business were to continues as usual, then it would probably be okay. Once the conflict does end, it could be several more weeks for backlogs of ships to leave the region and various industries in the region to flip the light switches back on.
But supposed the conflict goes on for a month, three months, or even longer? In that case, these businesses would need to hope that countries like South Korea and Taiwan can procure energy supplies from elsewhere. This is particularly acute in Taiwan, where TSMC consumes about 10% of the nation’s energy.
And internally, they’ll need to identify new sources of critical raw materials to continue delivering on their massive chip backlogs. One report from BusinessKorea suggests that domestic giants like Samsung and SK are already evaluating alternatives, but it might not help them avoid the rapidly rising prices that have come with uncertainty.
So why ignore the risk?
The good news is that there are alternatives for chip giants to consider. The bad news is that they certainly won’t be cheap, not even times like these.
But even at a time where money is supposedly not an object to AI capital expenditures, it’s right to wonder what sort of second or third order effects the higher cost of inputs could have across the whole tech supply chain. For AI in particular, with backlogs now spanning a year for certain hardware, any sort of trip-up could border on catastrophic.
There’s a lot of evidence that this “worst case” hasn’t been registered in the market, despite a rising probability of its eventuality. Year-to-date, the VanEck Semiconductor ETF is still up more than 4.1%. The S&P 500, by contrast, is down 2.5%.
That would suggest that some optimism still remains, even if it might not be deserved. Investors hoping for a quick conclusion to the ongoing conflict in the Middle East might be saddled with an ugly case of confirmation bias, the sort of wishful thinking which crowds considerate analysis of a situation.
This doesn’t just affect hardware producers either, of which there are many. It also stands to disrupt buildout and distort capital expenditure costs for the companies building the AI itself, potentially introducing new challenges for those firms. Maybe those effects aren’t felt now, as many AI players have procured hardware beyond Wall Street‘s wildest estimations, but it might be felt in the future if the conflict does not end.
Sure, this could all be over in a week, but there’s enough contradictory information to ask: “what if it isn’t?”
Short of a complete cessation of the conflict, the Strait of Hormuz might remain a largely uninsurable passing for globally important materials and industrial resources. Local industries responsible for manufacturing those materials might also remain paralyzed.
And once it’s all over, who knows how long it could take to bring things back to a state of normalcy…
