The premium of TSMC's US stocks has reached 25%. Why do very few hedge funds dare to arbitrage?
Analysts pointed out that this is due to the artificial intelligence boom making Taiwan Semiconductor a favorite among American investors, who cannot easily purchase the lower-priced Taipei stocks. Furthermore, investors remain optimistic about Taiwan Semiconductor's U.S. stocks, stating, "Betting on mean reversion is no longer a good strategy now, as financing costs have risen and premiums have become too trend-driven."
The premium of TSMC's American stocks has reached 25%. Why are hedge funds hesitant to attempt arbitrage trading?
On January 16, TSMC announced impressive fourth-quarter results, with a net profit of NT$374.7 billion, a year-on-year increase of 57%, and sales and operating profit rising by 39% and 64%, respectively. Analysts pointed out that this strong performance is attributed to the rapid growth of artificial intelligence spending and TSMC's key role as a major chip supplier for Apple and Nvidia.
Equally noteworthy is that the price of TSMC's American stocks is far higher than that of its Taiwanese stocks—theoretically, investors could short TSMC's American Depositary Receipts (ADR) while buying its Taiwanese stocks, and as the prices gradually converge, investors could easily profit.
However, this gap has not only failed to narrow but has instead widened to about 25% in January, the highest level since 2009. For comparison, the average gap over the past 10 years was only 6.4%.
As of the time of writing, TSMC's American stock is priced at $207 per share, while TSMC's Taiwanese stock is priced at NT$1,105 per share, with an exchange rate of approximately 33. The conversion ratio between TSMC's ADR and Taiwanese stock is 1:5, thus the premium rate = [（207×33/5）- 1105 ] / 1105 = 23.6%
Why is this happening?
Analysts indicate that this is due to the AI boom making TSMC a favorite among American investors, who find it difficult to easily purchase the lower-priced Taiwanese stocks.
Therefore, for hedge funds looking to bet on the narrowing price gap, the risk lies in the possibility that American investors may continue to drive up the price of TSMC's ADR, even though its premium level has reached an astonishing height.
Quincy Liu, chairman of Shin Kong Investment Trust, stated:
“This trade carries high risk because the premium may not necessarily narrow... Global investors have recognized TSMC's technological leadership and have reassigned a higher valuation to its ADR.”
As a major chip supplier for Nvidia and Apple, TSMC has become one of the preferred AI stocks for global equity investors due to its leading technology and more reasonable valuation compared to American tech giants. Since the release of ChatGPT in 2022, the price of TSMC's ADR has surged over 160%, while its Taipei stock price has risen by less than 120%.
Moreover, TSMC's ADR has not only attracted active investors but has also been included in benchmark indices and ETFs such as the Philadelphia Semiconductor Index, leading funds that track these indices to purchase TSMC's American stocks, further driving the ADR's superior performance compared to Taiwanese stocksAccording to data compiled by Bloomberg, TSMC's ADR accounts for only one-fifth of the company's total outstanding shares, but its average daily trading volume over the past three months is twice that of TSMC's Taiwan stock.
Will the premium continue to exist?
Analysts point out that the premium of TSMC's ADR exists in the long term due to its substitutability (meaning TSMC's ADR and the common stock of TSMC listed in Taiwan can be converted into each other through specific procedures), while Taiwan stocks require special regulatory approval to be converted into equivalent U.S. stocks.
As of Monday, the short interest ratio of TSMC's ADR was 0.4% of the outstanding shares, significantly lower than 3.1% in June last year, indicating that investors remain optimistic about the stock. Data compiled by Bloomberg shows that over 90% of analysts have given TSMC's ADR a buy rating.
Alex Au, General Manager of Alphalex Capital Management, stated:
"Over the past year, global investors have poured significant funds into the artificial intelligence sector, and TSMC is a major player in this field. The expansion of the U.S. investor base has driven the widening of the premium. Betting on mean reversion now is no longer a good strategy, as financing costs have risen, and the premium has become too trend-driven."
Joseph Lai, Chief Investment Officer of Sydney OX Capital Management, also stated:
"In the medium term, the valuation premium may further expand."