Fund flows in IT stocks set to rise on positive earnings surprise: Report

Fund flows into India's information technology stocks both from local and global investors are expected to rise gradually over the next two quarters, led by growing optimism for a soft landing of the U.S. economy and better-than-expected earnings, analysts said.

Shares of India's IT companies, which earn a significant share of their revenue from the U.S., surged 16.13% in the final two months of 2023, exceeding the benchmark Nifty 50's 13.9% gain.

Better-than-expected revenue growth from top IT companies such as Tata Consultancy Services and Infosys led to the outperformance of IT stocks over broader markets in January. The Nifty IT index gained about 4% this month, in contrast to the 0.3% drop in Nifty 50 index.

"We believe the IT sector is going through a classical sector rotation trade in favour of it," said Sanjay Bembalkar, co-head of equities at Union Mutual Fund.

"We expect investors, both foreign and domestic to increase allocations further on clarity over change in monetary policy stance in the U.S," he said.

About a third of the analysts covering IT companies in the Nifty 50 index hold an equivalent of "sell" or "strong sell" recommendation on the stocks, on average, according to LSEG data. Foreign portfolio investors (FPI) made modest purchases of 9.08 billion rupees ($109.3 million) in fiscal 2024, a fraction of their total investment of 1.97 trillion rupees.

IT, with the second-highest sectoral weightage of 13.62% in the Nifty 50 index, secured only a meagre 0.46% of the total FPI purchases in the fiscal year so far.

"FPI holding of India's IT services sector is materially below the last 10 year average," said Kumar Rakesh, associate director of equity research at BNP Paribas.

"We would expect their buying to return in 2024, as the sector goes through a cyclical recovery," said Rakesh. He expects investors with an "equal" or "underweight" position on IT stocks to shift to "equal" or "overweight," reflecting a large allocation in portfolios.

Market leader TCS and second-ranked Infosys reported third-quarter revenue growth that beat expectations, with more optimistic forecasts.

"This time commentary is backed by sustained strong deal booking, and expectation that after three - four quarters of project re-prioritization we have crossed point of maximum pain," said Santosh Pandey, head of Nuvama Professional Clients Group.

Pandey expects increased buying interest in IT stocks over the next three to four months, leading up to their March-quarter earnings when these companies provide annual growth guidance.