Recession signals by US banks casting shadow of uncertainty over IT cos

The December quarter earnings of largecap software companies did not give any shockers to Dalal Street, and the ongoing quarter too, is expected to be largely stable. But management commentary and the warning bells rung by some of the big American banks suggests that FY24 could be a tough year for the industry.

Last week, JPMorgan, Citigroup, and Bank of America said that they expect a mild recession to hit the economy in 2023.

JPMorgan’s chief executive Jamie Dimon highlighted several headwinds that could grip the economy, such as the ongoing war in Ukraine, high interest rates, and inflation, which remains well-above the Federal Reserve's 2% target despite the steep rate hikes.

“At this juncture, one doesn’t know whether the recession will be shallow or deeper…so uncertainty on that remains,” said Swapnil Shah, director research at Stoxbox.

Last week, when India’s top 4 technology companies released third quarter numbers, the management was aware that they would be bombarded with questions on their assessment of the current state of the US and European markets and the outlook for growth.

While there was unanimity among the companies on their view on Europe, not everyone is seeing signs of slowdown in the US.

Infosys said that there are some early signs of a slowdown in North America, but for TCS, growth in the US was much better than Europe.

Given the level of uncertainty in both the major markets, analysts see downside risks to consensus earnings estimates for FY24 as it does not reflect a potential recession yet.

The cautious tone coming from the American banking majors isn’t very good news because banking and financial services verticals make for more than 30% of the total revenues for both Tata Consultancy Services and Infosys.

Infosys had pointed out that some segments within the banking and financial services sector such as mortgage loans and investment banking are indicating cautiousness.

“We believe the slowdown impact would be more broad-based, and could be more in the hi-tech segment where clients may not opt for upgrades and rather continue with the current processes,” said Mitul Shah, head of research at Reliance Securities.

What should investors do?
While there are several unknowns at this juncture and the growth outlook is somewhat murky, analysts are not putting an “avoid” tag to the sector.

“We remain selective in the pack with Infosys and HCL Technologies among our top picks,” Shah of Reliance Securities said, who believes that vendor consolidation triggered by a slowdown will positively impact Infosys.

Most of the analysts aren’t in favour of betting on Tata Consultancy Services at the current juncture as the valuation discomfort remains despite the recent correction in the stock price.

More than largecaps, analysts see the slowdown hitting midcap companies hard.

“Compared to the largecaps, midcap companies are trading at premium valuations and we

see some correction in multiples,” Shah of Stoxbox said.

He, too, prefers Infosys among largecaps and Persistent Systems among midcaps.

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