Nifty IT trading below 200 DMA; how soon can you expect a turnaround?

The Indian IT sector has remained a torch bearer of the country's growth story for past few years. The domestic IT companies have been able to make their mark globally and have steered the journey of global conglomerates in digital transformation and migration to cloud among lot of other latest technologies. No wonder, they have been riding the growth momentum.

Shares of IT companies scaled unprecedented highs despite supply side issues and record attrition. However, when the when the FIIs started pulling out money from the Indian equity market due to interest rate hikes and other macro factors, Nifty IT index witnessed one of the biggest corrections amongst all other sectoral indices on the NSE.

Even today, while all other sectoral indices witnessed a turnaround with constituent stocks showing an uptrend, none of the Nifty IT stocks has moved above its 200-DMA (daily moving average). All its constituents are trading much below their 200-DMA. Such was the impact of recent correction on the sector.

The 200 DMA  reflects the average price over the past 200 days (or 40 weeks). It is an important long-term moving average indicator that gives a sense to the market participants regarding the long-term trend in the underlying asset. If price is above the 200 DMA, the long-term trend is considered positive and if the price is below 200 DMA, the long-term trend is considered negative.

Also Read: Market bounces back in week gone by as FIIs turn buyers after long hiatus

Gaurav Ratnaparkhi, Head of Technical Research, Sharekhan by BNP Paribas advises against using the 200 DMA in isolation. "200 DMA should not be used in isolation but it should be used in combination with other technical tools in order to arrive at a holistic view,” he said.

Nifty IT Index has corrected 27 percent year-to-date due to rising supply side shortages, fall in margins, higher attrition, rising sub-contractor and travel costs, rate hikes by the US Fed, fears of recession and  geo-political tensions in client-centric regions.

Nifty IT has corrected 34 percent from the top i.e. from the Jan 2022 high till the July 2022 low, Ratnaparkhi noted.

According to experts, the FII impact and soft performance by some of the IT heavyweights in Q1FY23 are the key reasons why the sector has not witnessed a turnaround.

The large part of buying witnessed during the past 5-6 trading sessions can be attributed to the FIIs buying into the Indian Markets. Hence, we are seeing many Nifty sectoral indices racing towards the north with IT being an exception because many of the companies which came out with their June quarter earnings reported numbers slightly below the street estimates.

“High attrition rates impacting the margins which resulted in lower profit and uncertainty on the scale of macro headwinds are weighting on the stock valuations despite steep correction from the 52-week high which is why the IT stocks are still trading below the 200-DMA levels”, said Raj Vyas, Portfolio Manager, Teji Mandi.

The sector is dominated by the large global Indian MNC exports whose fortunes are inextricably linked to the global economy.

“Their main market US is looking at a looming recession with two quarters of negative GDP growth and their bellwether housing sector is seeing a massive dampening of demand due to high inflation and high interest rates because of which the FIIs might be more pessimistic in their outlook which has resulted in these stocks languishing”, said Ram Kalyan Medury, Founder & CEO, Jama Wealth.

Vikas Gupta, a smallcase manager and CEO, Chief investment strategist, OmniScience Capital concurred and said that, “Most likely the downward price pressure is not due to any specific reason related to the IT sector, but due to the need for FIIs to reallocate more of their capital to developed markets given the new interest rate / liquidity regime and IT being one of the sectors with large FII holdings is naturally going to see selling pressure and hence downward price action”.

According to the technical experts, the Nifty IT index has started its corrective move upside.

“The 200 DMA is at 33,557 and as of now the 200 DMA is still trending downward, but once we see few positive closes in Nifty IT Index, the 200 DMA will flatten and then further trend up if the corrective up move continues”, said Bharat Gala, President, Technical Research, Ventura Securities Limited.

However, according to Ratnaparkhi, “Though the index is trading below its 200-DMA, the angle of descent has decreased over the last few weeks and the index has been in a process of forming a base for itself in the last few weeks while the daily & the weekly momentum indicators have developed positive divergences”. Thus, structurally, the IT sector is in process of revival. The IT index needs to hold above its short term moving averages, which will add to the weight of evidence in favour of the bulls.

Rajesh Palviya, VP - Technical and Derivative Research, Axis Securities, believes that there are multiple technical parameters on which we can conclude that a trend reversal in the IT sector is on the cards.

According to him, “On the daily chart, the "Double Bottom '' formation is in place and will get confirmed above 28,600 levels which also coincides with the 38.20 percent Fibonacci retracements levels, which also confirms that any move above 28,600 can lead to a good breakout in the index”.

Palviya added further that, “After April 2022, for the first time, prices are attempting to break the 50-SMA, which is quite encouraging while on the weekly timeframe, we have also observed a divergence in RSI, indicating the shift in momentum on the positive side”.

On the other hand, Gupta of OmniScience Capital is optimistic that a depreciating rupee will benefit IT. “The rupee depreciating is an advantage to the IT sector and this factor combined with the resilient nature of their expected revenues and growth due to strategic digital transformation initiatives of their clients should result in a relatively quicker turaround in sentiments”.

Experts also believe that once the FII reallocation is done, the prices should start rationalizing but at the same time if the Fed raises interest rates further, IT stocks could see another round of correction.

The IT sector outlook remains precarious as margin pressure stays in the entire IT pack, including mid-cap companies.

“With limited upside on the topline and margin pressures in the sector for FY23 and FY24 all stocks are witnessing pressure to get under-owned in the market”, said Prashanth Tapse, Vice President (Research), Mehta Equities Ltd. “Industry concerns like high attrition rates remain at an all-time high, gradual return of work to the office would bring in pressure on EBIT margins for next 1-2 quarters basis which the IT sector would remain under owned for next 1-2 quarters”.

However, Medury of Jama Wealth believes that, “As of now the industry seems to be looking at a decent Q1 and Q2 because discretionary spends are not yet impacted and if H2 is maintained then the FY23 guidance could be met by most large players, at least the lower end of the guidance”. Times like these could offer a good opportunity to buy high quality tech companies at reasonable prices.

Experts are more optimistic when it comes to demand but remain cautious on the margin front and would like to wait for H1FY23 performance.

“The current scenario favours good risk reward for the investors as the stock prices are down anywhere between 20-40 percent from their 52-week highs”, added Vyas of Teji Mandi. Experts advise investors to place their bets on the large cap IT stocks like TCS & Infosys and / or the Midcap IT stocks who are the leaders in their sector like Mindtree, Persistent Systems, L&T Technology Services, L&T Infotech. KPIT Technologies, etc.