Moody's US downgrade, a fresh jolt for IT stocks after stellar 30% rally – Buy or Avoid?
US' credit ratings downgrade by Moody's could create a short-term setback for the IT stocks, which have enjoyed a formidable run on the D-Street over the past month, rising by up to 30%. A glimpse of which was seen on Monday where tech counters fell sharply.
ADVERTISEMENT 'Moody's downgrade comes following Fitch's earlier action in August 2023, and it has created short-term challenges for Indian IT stocks, which depend heavily on the US for 60–70% of their revenue. The market reacted swiftly, reflecting investor concerns over a potential slowdown in US client spending,' Om Ghawalkar, Market Analyst at Share. Market said.
Moody's Friday cut by one notch to Aa1 follows a change in 2023 in the agency's outlook on the sovereign due to wider fiscal deficits and higher interest payments. Earlier, Fitch was the second major rating agency to strip the United States of its top triple-A rating, after Standard & Poor's did so after the 2011 debt ceiling crisis.
A combination of factors like President Donald Trump's tariff pause in April and decent Q4FY25 earnings by the tech companies have augured well for the markets and IT stocks.Another big positive was the US-China tariff truce, which immediately triggered a positive response from large US banks like JP Morgan and Goldman Sachs, who cut back the recession forecasts for the world's largest economy.
ADVERTISEMENT Read more: JP Morgan, Goldman Sachs cut back US recession forecasts after US-China announce tariff truce
Ghawalkar said that the rally in IT stocks has come after a sharp correction in their price-to-earnings (P/E) ratio, which made valuations attractive to investors. Additionally, Indian IT companies have secured several Generative AI projects, further boosting sentiment and contributing to the sector's recent positive performance, he opined.
In the 12-stock Nifty IT index, 8 have delivered double-digit returns. The highest returns are from tier-2 IT counter Coforge at 31%. A strong rally in it could also be attributed to the stellar Q4FY25 earnings, where the company reported a 33% year-on-year net profit growth and a 47% revenue uptick.
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Tech Mahindra and Persistent have also delivered over 20% returns in the same period. They reported a strong set of numbers in the January-March quarter of FY25 with PAT growth of 74% and 26%, respectively.
ADVERTISEMENT Stalwarts like Infosys and Tata Consultancy Services (TCS) have rallied 13% and 9% despite weak earnings. While Infosys' net profit growth fell 12% YoY, TCS saw a 2% decline in Q4 over the corresponding quarter of the previous financial year.
Others like LTIMindtree, HCL Technologies, Mphasis and Oracle Financial Services Software (OFSS) have returned between 18% and 10% in the one month period as on May 16, 2025. IT stocks reacted sharply on Monday following the Friday development, falling by up to 3% while the Nifty IT index went down by 1.3%. On Tuesday, IT was the best performing sector in an otherwise weak market with Coforge as the top gainer.
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Kumar Rakesh, Analyst – IT and Auto at BNP Paribas, decodes the outperformance of tier-2 IT stocks over their largecap peers. "The growth of some of the midcap IT services companies have structurally improved in recent years. Part of the reason is enterprises breaking down large contracts into smaller projects, in which midcap companies can also now participate, unlike earlier. This has resulted in an increase in the addressable market for midcap IT services companies, driving their growth higher. Also, some of the enterprises now prefer to bring in a good quality mid-cap IT services company as a challenger to their large-cap IT vendor, both for cost reasons as well as technological innovations," Rakesh said.Foreign Institutional Investors (FIIs) have also remained averse to the IT pack, withdrawing over Rs 14,000 crore in April. The fortnightly inflow/outflow data for the period between May 1 and 15 is due to be released by NSDL. Foreign institutional investors have reallocated funds to domestic-oriented sectors such as BFSI and real estate, taking out money from India's tech companies, the Share.Market expert said, adding that a 20 bps rise in US treasury yields post-downgrade could weigh on tech valuations by raising financing costs for US clients.Estimating a headwind, Shah said that AI monetisation may not translate to higher revenue for IT services companies in FY26 due to macroeconomic uncertainty and cost constraints on enterprise customers. Ghawalkar's advice to investors is to trail stop losses on IT stocks which look overextended. At the same time, for a fresh purchase, one should focus on companies which are inclined towards Generative AI, cloud computing and also have a diversified client base so that their revenue doesn't get too impacted due to global geopolitical tensions, this analyst said.
(Disclaimer: Recommendations, suggestions, views and opinions given by the experts are their own. These do not represent the views of Economic Times)
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