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Analog Century Management

Hedge Funds Q&A: Val Zlatev, Analog Century Management

The technology hardware space receives significantly less column inches than its software counterpart, in part because it’s a smaller space, and in part because it’s considered to be less ‘cool’. Investment firm Analog Century Management specialises in the space, however, and Greg Winterton spoke to Val Zlatev, Portfolio Manager and Senior Partner, to learn more about the firm and the hardware space.

GW: Val, for those less familiar with Analog Century Management, tell us a little about the firm.

VZ: We’re a New York based investment manager investing in liquid, public equities across hard tech sectors: semiconductors, semi cap equipment, communications equipment, and hardware/edge devices. We currently have approximately $1.2bn in capital deployed across three fundamental strategies: long only, long/short, and market neutral. The strategies rely on the same alpha generating positions, though fund exposures differ along with risk/reward expectations.

GW: Why hardware? And why do you take a discretionary / fundamental approach?

VZ: Hard tech is a compelling and attractive investment sector for several reasons. First, it is the essential and irreplaceable enabler of the biggest technology inflections in our lifetime, including artificial intelligence and electric vehicles. Second, it undergoes transformations and disruptions, creating significant opportunities for alpha generation. Third, it is a complex and specialized domain that requires deep technical and market knowledge, which creates an information edge for our team.

Val Zlatev
Val Zlatev

We take a discretionary and fundamental approach to effectively capture the dispersion in this sector. On the long side of the strategies, it is essential to compound alpha by identifying large inflecting themes like AI and EVs and investing in the technology leaders with pricing and margin power.

There are plenty of opportunities for trading alpha on the short side. Hard tech is littered with mature companies that compete in formerly ‘cool’ markets. For example, smartphones have transitioned to become more mature and as a result, product differentiation is difficult. If companies fall behind on the technology curve, or miss with a generation or two of products, they often face the long slide of lost market share, pricing pressure, and uncertain earnings.

GW: It’s difficult to talk about the semiconductor market without also discussing what many perceive to be a geopolitical risk. What’s your rebuttal to that objection when it comes up? What are the nuances to the space that some investors don’t quite understand properly?

VZ: Geopolitical risk is most prominent in the context of China and the risk is two-fold: first, the US restrictions on semiconductor exports to China and second, the fear of China taking over Taiwan, a country manufacturing many of the leading-edge semiconductors used globally.

There have been numerous restrictions on exports to China ever since we launched the firm in 2018, including but not limited to semi cap equipment and powerful AI chips. What investors need to understand is that global demand far outstrips supply, so regional sales have shifted to other geographies, and overall sales have continued to grow. Semiconductors are the oil of the 4th industrial revolution, and everybody needs them.

The geopolitical elephant in the room, however, is China and Taiwan and the prospects of a messy confrontation. We believe that outcome is extremely unlikely in the short to medium term; however, the implications of this kind of disruption would be far broader than just the semiconductor sector and will impact every type of market. The premise that China wants to invade Taiwan with the intent of taking control of Taiwan’s advanced semiconductor facilities is flawed. It is highly unlikely that China will be capable of using these facilities even if they control Taiwan. All semiconductors are manufactured using equipment provided by companies that are outside of China and Taiwan: Applied Materials, KLA Tencor, Lam Research, Tokyo Electron, and ASML. This equipment is remote controlled and will likely be turned off right away. At the very least, this equipment will be cut off maintenance contracts, software patches and updates, rendering TSMC’s facilities largely unusable in 6-9 months. This could serve as an incentive for China and Taiwan to find an agreeable political solution.

GW: In terms of the non-semiconductor corners of the hardware market, what are some of the others that you find particularly interesting at the moment, and why?

VZ: One of the most compelling opportunities lies in networking. Artificial Intelligence models are so large they require tens of thousands of servers to work on the problems simultaneously. AI networking requires upgraded equipment that enables faster data transmission, lower latency, and better bandwidth utilization. We have held numerous positions in companies set to benefit from increased networking requirements.

At the same time, we have identified more shorts within the hardware subsector. Many branded “boxes” are low margin businesses that need to buy the high margin semiconductors built into their products. Additionally, the largest buyers are the hyperscale datacenters, e.g. Amazon AWS, Google Cloud. Microsoft Azure. These companies are highly skilled at building infrastructure that serves their needs and are able to purchase chips and networking components directly from the manufacturers, rather than pay the mark up for the branded solutions.

GW: Something a little bit off-piste for this last one, Val. You’re a physicist, and your thesis focused on the aftermath of the big bang. What have you learned in academia that you now use as an investor?

VZ: I appreciate the question. My academic background in physics has served me in several ways as an investor. First, it taught me the power of keeping it simple and getting to the core or essence of a problem. It is the “Occam’s razor” Principle. Second, it gave me a deep appreciation for the power and beauty of fundamental science and technology, and how they can unlock new possibilities and create value. Third, it gave me a strong foundation for managing risk. The Heisenberg uncertainty principle is not directly applicable to business but what it taught me is that uncertainty is the only certainty - to be aware of the unknowns and to be cognisant of the inherent risks I am taking. 


Val Zlatev is Portfolio Manager, CIO, and Senior Partner at Analog Century Management

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