The trick is not to be distracted by the noise and avoid drawing all the wrong conclusions. So, I try not to scream when the market seems blithely unaware of the cataclysm of bad news threatening to overwhelm it.

More often than ever before I find myself wondering if markets have some form of dementia. Stocks suddenly rise a couple of percent when the news sounds unremittingly bad, solely on the basis that tomorrow will likely be better, or that really, really bad news will force Central Banks to give up on monetary tightening – thus making bad news into good news.

Market sentiment is up and down like a see-saw. When senior bankers, like Jamie Dimon of JP Morgan, are telling their banks' largest clients they see a greater than 20% likelihood of something worse than a hard recession – then maybe it’s time to check your hard hat is a snug fit.

For the last few months, the tone of markets has become more and more confusing. Whether the driver of uncertainty is China, Russia, inflation, war, Ukraine, energy or simple political or central banking ineptitude – the up and down of prices feels like it is making less and less sense by the day. The thing is – these are all known unknowns, things we are aware of, and have worked out how they will hurt us.

As a humble market strategist, I continue to pick the information together to discern probable outcomes. Whether it is raw data, reading through behaviours or seeing patterns in events, there is plenty of information out there – often too much. I try to interpret it and use it to discern what markets might be doing. (The key is to understand markets don’t think – they are just a voting machine.)

But the thing that really knocks-out markets are the no-see-ums – like the pandemic or the energy spike that has routed European economies.

Recently, I was looking at Risk On/Risk Off scenarios and came to the conclusion that US Treasuries will remain the core risk mitigation strategy. What could possibly undermine the mighty dollar?

Chips have become a key strategic resource. No one wants a destructive, costly war over Taiwan, or to wreck the global chip supply.

But then I also figured out the role of the humble computer chip in the global economic picture. Such a small thing could trigger a geopolitical crisis.

Perversely, the global chip business seems to be in short-term trouble. Investors are focused on declining demand for chips as post-pandemic shortages ease, and the rapidly escalating costs of new chip foundries required to make new ones threaten to overwhelm the market. Even as some of the major manufacturers have seen their stock price tumble, global demand for chips is set to double in the next decade – hence the need for greater investment.

On the other hand, semi-conductors (to give chips their proper name) are about the most important component of the global economy. Without chips… nothing works. We would go back to the horse and cart. The imperative from Washington to Beijing is to secure their access to chips.

Chips have become a critical strategic good – and that means they have become a key issue in the geopolitical Game of Thrones being played in the South China Seas.

Here are some points relating to semi-conductors to think about. Chips are ubiquitous:

  • The US has just approved a $53 billion bill to boost semi-conductor R&D – President Biden promises it will cut costs and create jobs.
  • China has just revealed a state investigation into how money has been siphoned off from a $100 billion state effort to build and upgrade its semi-conductor sector as part of its $3 trillion plan to move China into the top league of global tech.
  • Chinese chips are still a generation behind.
  • It takes 3-4 years to build a new chip foundry – there are critical machines to source and install.
  • It takes far longer to acquire the expertise to run it and produce top-end designs.
  • Taiwan produces over 65% of the global chip supply. It has a monopoly on producing the most complex chips.
  • Both the US and China are heavily reliant on Taiwan-manufactured chips.
  • Nancy Pelosi’s most important meeting last month wasn’t with the Taiwan president, but with the mighty Taiwan Semi-Conductor Manufacturing Company (TSMC) – trying to persuade them to expedite the establishment of US production sites.
  • Sophisticated modern weapons rely on chips. US and NATO stockpiles are being run down to supply Ukraine. China stockpiles remain intact. Raytheon recently reopened the Stinger production line – but could take years to deliver 1200 new missiles to an old design.
  • Wargames modelling a Taiwan invasion and US intervention suggest a war could cost the US Navy and Air Force over 900 aircraft (half the US inventory) and the bulk of the Pacific Fleet. The Chinese would not win and would see their amphibious forces destroyed.

Chips have become a key strategic resource. No one wants a destructive, costly war over Taiwan, or to wreck the global chip supply. The Chinese have enough on their economic plate – property fallout, the domestic loan market, youth unemployment, plus the ongoing damage of COVID restrictions to contend with. The conflict would simply exacerbate their economic weakness ahead of critical party meetings.

But… If China wanted to inflict economic self-harm by inviting Western Sanctions and lost manufacturing orders, then they could.

The Chinese don’t actually need to invade to thoroughly destabilise the West. All they would need to do is institute a blockade of Taiwan. The West would not be certain of global support against such a move. If the Chinese frame it as domestic police action, the same countries that failed to rally against Russia’s invasion of Ukraine – critically the Gulf States – may decide to withhold support and wait and see how it plays out.

A global shortage of chips will swiftly impact the West’s manufacturing capabilities, closing down the auto sector and causing chip rationing towards defence spending. It would be dangerous – a blockade would raise the likelihood of mistakes, miscalculations and raise the risk of confrontation turning a cold war hot.

Sprinkle in some more confusion – like a new Trump administration likely to unravel the Western Democratic Alliance and break NATO. Trump had his successes, but his first presidency was an unmitigated disaster in terms of America’s international standing and relationships. He offended US allies and diminished the reputation of the Bastion of Democracy as a reliable partner. Should Trump’s new MAGA republicans win the mid-terms it will further change the signals – perhaps encouraging China to take a risk on Taiwan’s chips…