Ghost Factories and the Green Manufacturing Bubble: A Cautionary Tale for Investors

The relentless expansion of China's manufacturing sectors has created a paradox: factories built at breakneck speed are now idling, warehouses overflow with unsold goods, and subsidies prop up businesses that would otherwise collapse. This phenomenon, often termed the “ghost factory” problem, is most acute in two key industries—semiconductors and electric vehicles (EVs)—where overcapacity risks are exacerbated by policy-driven distortions. Investors must heed the warning signs of a green manufacturing bubble, as subsidies and geopolitical tensions fuel unsustainable investments in industrial capacity. Below, we dissect the risks and outline strategies to navigate this landscape.

Semiconductors: The Legacy Chip Overcapacity Crisis

China's semiconductor sector, once hailed as a pillar of technological self-reliance, now faces a stark reality. Legacy semiconductors—used in appliances, industrial machinery, and low-end electronics—are the epicenter of overproduction. TrendForce projects China will account for 39% of global mature-node (≥28nm) capacity by 2027, up from 25% in 2020. Yet this surge in capacity is outpacing demand.

The root cause lies in Beijing's “complete industrial chain” ambition, fueled by state subsidies. The National Integrated Circuit Industry Investment Fund (“Big Fund”) has injected USD $40 billion into chipmakers, while local governments offer cheap land and financing. This has led to a flood of entrants, many of whom operate at a loss. Take Hua Hong Semiconductor: it avoided bankruptcy in 2020 only through direct subsidies.

Geopolitical tensions have worsened the imbalance. U.S. export controls on advanced chips (≤14nm) have pushed Chinese firms to over-invest in legacy nodes, creating a “race to the bottom” in pricing. Meanwhile, idle capacity in adjacent sectors—such as green hydrogen electrolyzers, where 86% of capacity is unused—hints at systemic inefficiencies.

The chart reveals SMIC's stagnation versus TSMC's resilience, underscoring the gap in technological and operational efficiency.

EVs: The Price War and Export Stagnation

China's EV industry, which produced 12.4 million vehicles in 2024 (70% of global output), is now drowning in overcapacity. A price war—driven by BYD's 30% discounts and Tesla's aggressive pricing—has slashed average prices by 19% since 2022. Smaller players are collapsing: Zhejiang Hozon, parent of EV brand Neta, filed for bankruptcy in 2024, while its Thai sales plummeted 48.5% year-over-year.

The problem extends beyond domestic markets. EV exports grew just 7% in 2024, as trade barriers (EU tariffs, U.S. Inflation Reduction Act restrictions) forced Chinese firms to shift production overseas. Even this strategy is risky: Southeast Asia's capacity is set to triple by 2026, but local governments may demand equity stakes or technology transfers, further diluting returns.

BYD's meteoric rise contrasts with Tesla's volatility, but its rising debt (current liabilities up 60% in 2024) signals fragility.

The Risks: Write-Downs and Stranded Assets

The twin crises of overcapacity and policy distortions are setting the stage for significant financial fallout:
1. Subsidy Dependency: Over 80% of Chinese EV and semiconductor firms rely on subsidies to stay afloat. If Beijing reduces support (as it has for EVs since 2023), margins will crater.
2. Global Overproduction: China's 39% share of legacy chip capacity by 2027 could flood global markets, depressing prices and rendering investments in low-end nodes obsolete.
3. Stranded Assets: Factories built for niche markets (e.g., electrolyzers, low-margin EV models) may become liabilities as demand falters.

The EU's concerns about Chinese market distortions are prescient: cheap exports could destabilize European industries reliant on semiconductors or EV components.

Investment Strategy: Short the Overexposed, Long the Tech Leaders

1. Short Positions:
2. SMIC (0981.HK): Overexposed to legacy nodes with no path to advanced tech.
3. BYD (002594.SZ): High debt and reliance on price cuts to clear inventory.

4. EV Startups: Firms like NIO (NIO) face margin erosion and declining market share.

5. Long Positions:

6. TSMC (TSM): Dominates advanced nodes, benefits from geopolitical demand for reliable supply.
7. ASML (ASML): Critical for semiconductor tooling, immune to overcapacity in legacy nodes.

8. Tesla (TSLA): Leverages software and brand equity to command premium pricing.

9. Macro Plays:

10. ETFs: Short the iShares MSCI China Tech ETF (CSET) or long the Global X Autonomous & Electric Vehicles ETF (DRIV).

Conclusion

China's ghost factories are a symptom of a deeper problem: subsidies and geopolitical posturing have prioritized industrial scale over market efficiency. Investors must recognize that overcapacity in semiconductors and EVs will lead to write-downs, stranded assets, and a reckoning for firms unable to innovate or compete globally. The playbook is clear: short the overexposed, and back firms with technological superiority and global pricing power. The green manufacturing bubble may yet burst—investors ignoring its risks will pay the price.

This data underscores the unsustainable trajectory of state-backed overinvestment.