Indian IT stocks — from the likes of TCS, Infosys, Wipro, Tech Mahindra, and HCL Technologies — are in focus on Dalal Street as investors and policymakers globally are divided over whether a recession is coming in the world’s largest economy. That is at a time when IT companies are already struggling against shrinking margins, thanks to higher spending to tackle high levels of attrition.
Fears of a recession are keeping investors nervous at a time when many analysts have already warned of more downside in the IT space on the Street.
Weakness in the rupee — which is still within inches from an all-time low against the US dollar — is also weighing on investors’ minds, as depreciation in the currency increases the value of earnings from foreign markets for export-heavy businesses such as IT companies.
Is a recession really coming and is there a silver lining?
According to Nomura, a recession is likely in the US. “The Fed’s commitment to restoring price stability will likely push the economy into a downturn,” the brokerage said.
It believes a mild recession in the world’s largest economy is “more likely than not” starting the fourth quarter of 2022. Nomura sees the US GDP declining 1 percent on a year-on-year basis in 2023 — in stark contrast to its previous forecast of a 1.3 percent expansion.
Nomura is of the view that the combination of sticky inflation and the Fed’s “single-mandate” to curb it will be among the key factors behind the possible downturn. “The Fed’s efforts to realign demand with depressed supply to rein in price pressures will ultimately drive the economy into a mild recession,” it warned.
However, US Treasury Secretary Janet Yellen believes that a recession in the US is “not inevitable”. Her remarks came days after the Fed announced its steepest hike in the key interest rate since 1994.
The Fed’s hawkish move to tame a 40-year high in US inflation sent shockwaves to the global financial markets, already worried about the possibility of economic contraction.
Nomura, however, added that consumer fundamentals remain on a historically solid footing.
Some analysts are more concerned about the possibility of a recession in the US regardless of the healthy demand for Indian IT.
Deepak Jasani, Head of Retail Research at HDFC Securities, expects global IT spending to grow 4-7 percent in 2022 and 2023 as against 6-8 percent earlier. That is despite good demand as indicated by the number of open positions, the size of the sales funnel, the pace of hiring and the offer-to-joining ratio, he told CNBCTV18.com.
“A shallow and swift recession can result in clearer priorities by clients on outsourcing decisions and programs. From a service provider’s view, a recession can bring down the high attrition faced by all IT players, allow much-needed streamlining to the cost structure and allow them to improve execution,” he said.
Jasani felt that while demand for cost savings increases from clients during a recession, the impact is offset by a cut in variable compensation and rupee depreciation.
Should investors worry?
There could be a further correction in the Indian IT space if demand slows down, according to Harsha Upadhyaya, CIO-Equity at Kotak Mutual Fund. He feared that slower demand for the IT pocket could make things much worse for investors.
“The market is possibly looking at some margin contraction and some derating in terms of valuation, but still not building in any slower demand for IT companies. If you look at IT sector valuations, they are still trading at almost one standard deviation above the long-term averages,” he told CNBC-TV18.
“To that extent, if there is any disappointment on the business momentum, we could see IT companies correct further,” he said.
Jasani has four preferred picks from the IT basket: Infosys, HCL Tech, Mphasis, and Tech Mahindra.
First Published: IST