Three AI chip stocks force Asia fund managers to sell winners

The AI-fueled rally in three semiconductor stocks has concentrated Asian equity benchmarks to unprecedented levels, forcing active fund managers to sell their best performers and accelerating a historic shift from active to passive investing.

Sam Konrad's stocks are having a fantastic year, but his fund is so top-heavy with winners that he now needs to ditch his best performers. The investment manager for Asia Equity Income at Jupiter Asset Management has been a forced seller of TSMC, Samsung and MediaTek — chip stocks that have respectively gained 52%, 159% and 184% so far this year.

"We have been forced sellers of TSMC, Samsung and MediaTek," Konrad said.

Just three companies — Taiwan Semiconductor Manufacturing Co., Samsung Electronics and SK Hynix — now account for almost a third of the MSCI Asia Pacific ex-Japan Index, creating concentration risks that many active portfolio rules deem too high. TSMC alone occupies 41.5% of Taiwan's TAIEX, while Samsung and SK Hynix together comprise 55% of South Korea's KOSPI, meaning these benchmarks are largely bets on one or two stocks.

The degree of concentration "creates structural challenges," said Herald Van der Linde, head of equity strategy for Asia Pacific at HSBC in Hong Kong. "As equities continue to outperform, funds will find it increasingly difficult to add exposure, reinforcing a cycle of forced selling and enlarging underweight positions even amid strong fundamentals."

The forced selling is one of several distortions from a rally riding almost entirely on a handful of companies. While the MSCI Asia Pacific ex-Japan index has gained 27% year-to-date, excluding Korea and Taiwan it is down 4%, according to Goldman Sachs. Information technology stocks have led the region with explosive gains, while consumer staples and healthcare have lagged. The selloffs have been equally lopsided: South Korean stocks slid 12% and Taiwan fell 6% in the last three sessions from record highs as investors fretted about AI valuations.

The Great Rotation Into Passive

The concentration has turbocharged a trend already underway in the U.S., where the Magnificent Seven technology stocks comprise about a third of the S&P 500. In Asia, the shift has been more extreme and more rapid.

Over the last five years, Asia's active funds have seen $269 billion of cumulative outflows, while passive funds have drawn in $510 billion, with a quarter of that coming in just the last six months, according to BNP Paribas' analysis of EPFR data. The scale of recent inflows into the region's passive funds "has no precedent across the last 10 years," said William Bratton, head of cash equity research for Asia-Pacific at BNP Paribas Securities.

The turbulence in fund flows is also unprecedented in scale. Rebalancing in foreign portfolios drove a record $27.9 billion outflow from South Korean equities in May, exchange data showed, while Nomura tracked an unprecedented $20.4 billion year-to-date inflow from U.S.-domiciled funds into South Korea and Taiwan.

"The relentless rally since April has increased concentration risk in Asian equities that we have never seen before," said Rupal Agarwal, Asia quant strategist at Bernstein.

Stock Pickers Head Down the Supply Chain

In response, active managers are moving further down the AI supply chain, buying smaller-cap companies while emphasizing strategies that do not passively follow lopsided indexes. Isaac Thong, senior investment director for Asian equities at Aberdeen Investments, recently added ASMPT and Grand Process Technology Corp, both mid-sized suppliers to chipmaking firms.

Konrad prefers larger stocks and has nearly half of his fund allocated to Taiwan and South Korea. He owns shares in electronics-makers Hon Hai and Quanta, as well as SK Hynix, with his largest position in chip designer MediaTek. "Our funds are very different to the benchmark, and the way we invest very different to our peers, which we think has helped us to outperform," he said.

The concentration risk has become more pronounced than it was when Baidu, Alibaba and Tencent were market darlings, making up 37.14% of the narrower MSCI China benchmark at their peak in October 2020. With three chip stocks now wielding even greater influence over regional benchmarks, the pressure on active managers to adapt — or cede ground to passive funds — shows no sign of easing.

This article is for informational purposes only and does not constitute investment advice.