Contra bet? IT stocks shrug off earnings growth risks, outpace Nifty 50 in H1FY24

MUMBAI: In the last six months, the benchmark Nifty 50 has net gained more than 13%, and one sector that has contributed significantly to this is the information technology pack despite the hullabaloo around global slowdown and earnings growth risks for the sector.

The outperformance of IT stocks, which enjoy the second highest weightage in Nifty 50, to banks, has helped the 50-stock index move past the psychologically-crucial 20000-mark.

In the first half of FY24, while the Nifty IT index has gained 11%, Nifty Bank has added over 9%.

Of the 10 constituents of the Nifty IT index, eight of them have given double-digit returns in the April-September period.

One must note that the stellar gains in stocks have come even after most technology majors gave a bleak outlook for earnings growth in FY24 amid the economic slowdown in the US and Europe.

The trading pattern in the IT stocks in the derivatives segment, particularly in the last three series suggests that the majority of the gains were on the back of covering short positions.

After seeing major short covering in the July and August derivative series, IT stocks saw fresh build-up of long positions in the September series, said derivative analysts.

The short covering-led rally, followed by fresh bullish positions saw the Nifty IT index breach the crucial 31500 points during the September series. In the September derivative series, Nifty IT gained more than 2%, outperforming Nifty 50, which gained 1%.

Most of the bullish positions have been carried forward to the October series, as the sector saw high rollovers.

“The rollover in IT was higher than the previous expiry by 600 bps, indicating healthy rollover across all the stocks from the sector,” said Rajesh Palviya, derivative analyst, Axis Securities.

Jay Thakkar from Sharekhan by BNP Paribas pointed out that the rollovers were higher in midcap IT stocks compared to their largecap peers.


Will momentum sustain?
While the sector has given stellar returns in the last six months, sustenance of the momentum will hinge upon the September quarter results of the companies and their guidance for the second half of FY24.

Tata Consultancy Services will kickstart the earnings season for the IT pack with its results on October 11. TCS will be followed by HCL Technologies and Infosys on October 12.

In the past few instances, stocks have seen selling pressure post results announcement. However, in the run-up to the results, Palviya recommends initiating a moderate bullish strategy in TCS by going for a bull call spread. This involves buying a call option of a lower strike price and simultaneously selling a higher strike price.

“Traders can buy one lot of 3,600 call strike at Rs 80 and simultaneously sell one lot of 3800 call strike at Rs 20, so that the net outflow or maximum loss will be restricted to upto Rs 10,500,” Palviya said.

On the contrary, Thakkar recommends either trailing stop losses on any of the long positions or hedging it by buying put options, as upside from current levels look limited for most stocks.

As far as the Nifty IT index is concerned, 31350 is a very crucial support in the near term and till that level is held, the overall trend remains bullish in the short term for targets of 33400-33600 levels on a conservative basis, Thakkar said.

On Friday, Nifty IT index ended 0.3% down at 31784.40 points.


Q2 Expectations
Most of the companies are expected to report muted growth in revenue in the September quarter, which otherwise is a seasonally strong period for the sector.

Analysts believe the weakness will be broad based, and amplified in the banking, retail and telecom segments – all of which are the crucial revenue contributors for largecap companies.

Profitability growth will be muted for yet another quarter amid the slowdown in discretionary deals and rise in costs.

Companies’ commentary on the business outlook in the US and Europe, deal pipeline, and margin trajectory will be closely tracked by Dalal Street investors.

While the earnings might remain soft in the September quarter, some analysts have gradually started turning positive on the sector. Global investment bank Morgan Stanley turned positive on the IT pack and raised its price target for the entire pack, citing improving prospects for margin growth and expected recovery in earnings in FY25.

Strong outlook on FY25 revenue growth, improving margins, and double-digit EPS growth should keep valuations afloat, the investment bank said.

(Data inputs from Ritesh Presswala)

(Disclaimer: Recommendations, suggestions, views and opinions given by the experts are their own. These do not represent the views of Economic Times)