Semiconductor ETF Signals Flash Caution, Yet Momentum Drives On

The iShares Semiconductor ETF (SOXX) is exhibiting mixed signals, requiring a balanced perspective from markets navigating the dynamic landscape of the semiconductor sector. While strong momentum, fueled by the ongoing AI boom, has propelled the ETF to significant gains, technical indicators suggest the market may be entering overbought territory, signalling a potential pullback.

Working against that thesis in the near term is news surrounding AMD this morning, propelling the stock more than 22% higher in the pre-market. The SOXX is 2.23% higher in the pre-market, with momentum clearly with the sector.

SOXX has experienced substantial growth, with a 15.84% increase in the past month and a remarkable 64.33% surge over the last six months. Year-to-date, the ETF is up 28.85%. This impressive performance mirrors similar gains seen in other semiconductor ETFs, such as the VanEck Semiconductor ETF (SMH) and the SPDR Semiconductors ETF (XSD). However, this rapid ascent has triggered overbought signals, with the Relative Strength Index (RSI) for SOXX reaching 77.5 on the daily charts.

The overbought condition is further underscored by similar observations in other semiconductor-related instruments. Earlier in the year, the Direxion Daily Semiconductor Bull 3x Shares ETF (SOXL) hit a new year high, also accompanied by an RSI indicative of overbought conditions. This suggests a broader trend of potentially unsustainable upward momentum across the sector. Such technical signals often precede short-term corrections as markets consolidate gains.

Adding complexity to the analysis is the evolving sentiment surrounding AI investments. Earlier this year, the unveiling of DeepSeek's advanced AI model triggered a downturn in AI-themed ETFs, highlighting the sensitivity of the market to competitive pressures and technological advancements.

Subsequently, a shift in focus towards AI software companies from hardware manufacturers further illustrates the dynamic nature of the sector. This transition reflects a growing anticipation that software will be the primary beneficiary of AI advancements, potentially impacting the long-term prospects of hardware-centric semiconductor companies.

Prior to Nvidia's recent earnings report, increased put option activity in the VanEck Semiconductor ETF (SMH) signaled caution among markets. This defensive positioning suggests concerns about potential volatility and uncertainty surrounding the earnings outlook, highlighting the need for careful risk management in the sector.

Despite these cautionary signals, the underlying momentum in the semiconductor sector remains robust, largely driven by the insatiable demand for AI-related technologies. Markets must carefully weigh the potential for short-term pullbacks against the long-term growth prospects fueled by AI and other technological advancements.