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Business News/ Markets / Stock Markets/  IT sector demand may be muted in short term, but Infosys, TCS, HCL Tech among top buys, say experts

IT sector demand may be muted in short term, but Infosys, TCS, HCL Tech among top buys, say experts

Indian IT services may face muted demand in the short term, but strong deal bookings signal growth potential in the medium to long term. Analysts suggest focusing on large-caps over mid-caps as any further slowdown can more significantly impact smaller companies.

IT sector demand may be muted in the short term, say experts. (iStock)Premium
IT sector demand may be muted in the short term, say experts. (iStock)

The gloomy demand environment for the Indian IT players may persist in the short term, but analysts believe green shoots are emerging which could drive the sector's growth in the medium to long term. 

The Indian IT sector may witness a continuation of muted demand in the short term, largely due to the conservative tech spending of US BFSI clients. However, promising signs of recovery are emerging, such as recent strong deal bookings, which are expected to fuel the growth of Indian IT players in the medium to long term, according to brokerage firm Antique Stock Broking.

Also Read: IT Sector: Between midcaps and largecaps, what should you pick? Here's what experts suggest

The brokerage firm pointed out that the US banking results suggest there still exists a conservative stance toward tech spending, with most banks witnessing a decline in tech spending as a percentage of revenue.

"Tech spending as a percentage of sales came in at 6.5 per cent in Q1CY24 versus 7.4 per cent in Q4CY23 and the past eight-quarter average of 6.8 per cent. The overall banking business outlook for large banks and consumer sentiment remains fine with lower unemployment, and rising home and stock prices. Despite this, banks remain conservative in investing in technology as they want to see the macros improving and the global political uncertainties recede before they invest in medium to long-term transformation projects," said Antique.

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Antique underscored that clients are spending cautiously, prioritising investments in services such as data, digital AI, and cloud technologies. Moreover, they are conserving cash and concentrating on business-critical projects that offer immediate returns on investment.

However, deal bookings have been strong as companies are experiencing pent-up demand in the BFSI sector, which is expected to drive growth in the medium to long term, Antique said.

The brokerage firm highlighted that the Q4FY24 results for Indian IT services witnessed a decline in BFSI revenue.

"All large IT companies reported below-average performance in the BFSI vertical, with Infosys and Wipro witnessing more than 8 per cent decline in revenue. Most companies' commentary suggested that the macroeconomic impact of high inflation and peak interest rates within the BFSI sector led to a cautionary approach by large banks," said Antique.

Also Read: IT Sector Q4 Review: Axis recommends buying Persistent Systems, KPIT Tech after March quarter results – here's why

Antique prefers large-caps over mid-caps as any further slowdown can more significantly impact smaller companies. Within the IT coverage universe, HCL Tech, Tech Mahindra, and Mphasis are its preferred picks.

IT stocks
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IT stocks (Antique)

Another brokerage firm, Emkay Global Financial Services, also underscored that the FY25 guidance reflects muted demand, weak discretionary spending, and a lack of visibility into demand recovery in the near term.

Emkay observed that the management commentary of Indian IT players remained unchanged, with uncertainty over recovery timelines. Consequently, the earnings downgrade cycle continued, although the overall pace of earnings downgrades slowed.

The brokerage firm expects that the start of the interest rate-cut cycle would act as a signalling trigger for clients to gain confidence in the inflation trajectory and macro stability, which may drive demand recovery and an uptick in discretionary spending.

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Emkay expects the IT stocks’ earnings downgrade to bottom out in the first half of the current financial year (H1FY25) if the current expectations on interest rate cuts materialise.

"Corrections in stock prices over the last few months have made valuations more reasonable. We prefer large-caps over mid-caps, considering relative valuation. Our pecking order is Infosys, HCL Tech, Wipro, Tech Mahindra, TCS, and LTIMindtree in large-caps. Among mid-caps, we prefer Cyient, Birlasoft, Zomato, Firstsource Solutions and Mphasis," Emkay said.

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Disclaimer: The views and recommendations above are those of individual analysts, experts, and brokerage firms, not Mint. We advise investors to consult certified experts before making any investment decisions.

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Published: 30 May 2024, 02:29 PM IST
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