Shares of Information Technology (IT) companies extended their fall for the second straight session on Monday, with index heavyweights Tata Consultancy Services (TCS), Infosys, and Wipro hitting their respective 52-week lows in the intraday trade. The IT stocks have underperformed this year - falling up to 45% on a year-to-date (YTD) basis as compared to nearly 3% drop in the BSE Sensex - amid concerns about earnings and profit margins in the backdrop of a muted demand environment and higher interest rates. The Nifty IT index has corrected 3% YTD, after a strong rally of 144% from January 2020 till March 2022 amid pandemic-driven Digital Transformation (DT) services-based earnings acceleration and significant multiple expansion on unprecedented monetary stimulus in the U.S. and Europe.

Investors are dumping IT stocks, which generate a major chunk of their revenue from the U.S. and European markets, amid fear that rising inflation and higher interest rates would have a major impact on tech spending in these regions. The concerns regarding the weak demand environment in the backdrop of geo-political tensions and macro headwinds in the western nations, which include factors such as drop in profitability, cut in capital expenditures, freezing of hiring, and margin pressure due to high attrition, also weighed on market sentiments.

The S&P BSE Information Technology (IT) index dropped as much as 1.4% in early trade today, in line with the broader market. The BSE benchmark Sensex fell 1.8% to 57,038 levels intraday amid weak cues from global peers.

IT sector heavyweight TCS declined as much as 1.9% to touch a 52-week low of ₹2,926 on the BSE. The share price of the country’s most valued IT firm has fallen nearly 28% from its 52-week high of ₹4,045.50 touched on January 18, 2022. The largecap IT stock has delivered a negative return of 23% in the past one year, while it has tumbled 20% on a YTD basis.

Infosys, the country’s second-largest software exporter, slipped 0.7% to hit a 52-week low of ₹1,355.50. It has dropped 30% in the last nine months, from its 52-week high of ₹1,953.70 in intraday trade on January 17 this year.  The IT heavyweight trades higher than its 5-day moving average, but lower than 20-day, 50-day, 100-day, and 200-day averages.

Similarly, Wipro shares shed 2.5% to ₹384.6, its lowest level in the past one year. It had touched a 52-week high of ₹739.80 on October 14, 2021. The stock has plunged nearly 42% in the last one year and 45% in the calendar year 2022.

“After two blockbuster years in 2020 and 2021, the Nifty IT index in YTDCY22 has underperformed the Nifty by 3,200 bps. The starting point for the underperformance was the runaway valuation of both Tier-1 and Tier-2 IT companies in the context of higher interest rates on the horizon. The second point was the concern of developing around earnings in FY23 and FY24. The concern on FY23 was primarily to do with margins and the one on FY24 was largely to do with demand,” according to a report by Nirmal Bang institutional Equities.

On the demand environment, the report highlighted that there is a demand weakness to contend with in FY24 - the extent of which is dependent on the nature of the slowdown in the United States. “While Europe has surprisingly held up in the June’22 quarter, the macro there seems to have deteriorated a lot faster than in the U.S. It remains to be seen if that has impacted the European enterprises to pull back their IT spending at least for the time being. We are in the shallow US recession camp and believe that it will lead to low-to-mid single digit USD revenue growth for the Tier-1 Indian IT players, with Tier-2 set growing at a high single-digit rate,” it noted.

The agency had downgraded its view on the Indian IT Services sector to “Underweight” on a 12-month basis through a report on 10th April 2022 and cut target prices further on 19th May 2022, and 8th July 2022. “We advocate that investors use the likely 1HFY23 strength to pare positions if overweight, especially in expensive Tier-2 set,” it added.

At the time of reporting, all these three stocks were trading in the green, reversing their early losses, supported by weakness in the rupee as they earn in dollars for services they provide to their overseas clients. The Indian currency hit a fresh low of 81.55 per dollar after breaching 81.50 levels on Monday amid strong demand for the greenback on fears of a global recession due to continued hikes in interest rates by central banks across the world. The record rally in the U.S. dollar is likely to benefit the earnings of the IT companies as the majority of their revenue comes in dollar terms.

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