Exploring Investment Opportunities: Taiwan Semiconductor Manufacturing Beyond the S&P 500

Investing in stocks can be exciting, especially with options like the Vanguard S&P 500 ETF (NYSEMKT: VOO) at your fingertips. Vanguard is a favorite among investors due to its reliable tracking of the S&P 500 index and its low expenses.

In recent years, investors have seen impressive rewards from index funds like Vanguard’s. Notably, the S&P 500 has risen about 70% over the last 28 months since the market low in October 2022. Much of this surge can be attributed to the success of major technology companies, particularly as advancements in artificial intelligence (AI) have taken center stage.

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However, it’s important to note that not every leading AI stock is part of the S&P 500 index, potentially leaving some investors at a disadvantage.

Many investors realize the S&P 500 includes 500 of the largest companies in the market. Yet, the selection criteria set by S&P Global extend beyond company size. To qualify, companies must have their headquarters in the United States, hold a majority of their assets there, and demonstrate profitability on a GAAP basis over the last quarter and the past 12 months.

This means that a significant player like Taiwan Semiconductor Manufacturing (NYSE: TSM) is not part of the index. Nevertheless, this innovative AI semiconductor company offers appealing investment opportunities and can complement a portfolio alongside the Vanguard S&P 500 ETF.

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TSMC: A Leader in AI Semiconductor Manufacturing

Industry-leading semiconductor firm Nvidia (NASDAQ: NVDA) relies on Taiwan Semiconductor Manufacturing Company (TSMC) when it seeks to design new graphics processing units (GPUs). While Nvidia leads in GPU design, it outsources production to TSMC, which possesses the necessary technologies and facilities.

Working alongside chip designers, TSMC employs its advanced proprietary processes to manufacture chips. The company has invested heavily in research and development, focusing on techniques that enhance power efficiency by allowing transistors to be placed closer together on silicon.

In fact, TSMC sometimes collaborates directly with clients like Nvidia to develop customized processes, such as their latest Blackwell platform GPUs, which utilize an innovative approach to increase transistor capacity on each chip.

TSMC is one of just a few chip manufacturers capable of producing complex chips consistently. With over 60% market share, the company is a vital partner for major clients including Apple and Broadcom.

The scale and resources of TSMC allow it to invest significantly in research and development, ensuring it stays ahead of the competition. This strong position keeps TSMC at the forefront for clients looking to create cutting-edge chips for AI applications, whether in data centers or consumer devices.

Future Growth in AI Chip Sales

In its fourth-quarter earnings report from January, TSMC shared an optimistic forecast. Management expects AI-related sales to grow by 40% per year over the next five years, contributing to an overall 20% compound annual revenue growth during the same period.

TSMC has plans to allocate approximately $40 billion for capital expenditures in 2025, reflecting a 35% increase from the previous year. Historically, TSMC manages its expenditures wisely, aligning them with growth potential. However, it’s important to remember that the semiconductor industry can be cyclical, and high fixed costs may impact profits during downturns.

What’s key to note is that TSMC stands to gain from rising demand for AI chips across various designers. This unique manufacturing capability and scale position TSMC as a less volatile investment option compared to individual chip makers. Priced at only 23 times its estimated future earnings, it represents an attractive investment opportunity compared to its peers.

Investors holding the Vanguard S&P 500 ETF who wish to invest in TSMC should aim for a proportionate investment, roughly aligning to 2% of their S&P 500 holdings. With TSMC’s market capitalization at about $1 trillion, it would be suitable for risk-averse investors seeking to diversify their portfolios.

Is Taiwan Semiconductor Manufacturing a Good Investment Right Now?

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Adam Levy holds positions in Apple and Taiwan Semiconductor Manufacturing. The Motley Fool recommends and has positions in Apple, Nvidia, Taiwan Semiconductor Manufacturing, and Vanguard S&P 500 ETF. The Motley Fool also recommends Broadcom. The Motley Fool’s disclosure policy applies.

The views expressed are those of the author and do not necessarily reflect the opinions of Nasdaq, Inc.