Rupee fall comes to tech firms' rescue

MUMBAI: On the day when the benchmark swung back and forth by over 1,500 points, IT stocks including Infosys Technologies, TCS, Satyam and Wipro stood rock solid. It was surprising as IT sector has been a laggard during the current bull run.

The IT sector as a whole has 12.6% weightage in the Sensex and it’s anybody’s guess what the scenario would have been if the sector had joined the morning meltdown. The same factors that lead to a sharp fall in the broader market lead to a mini-rally in IT counters.

Investors, worried about a clapdown on FII investment flows, bid-up stock prices of IT companies in the hope that lower capital inflows would put a break on rupee appreciation and help IT companies report better profitability in the forthcoming quarters.

Theory goes that curbs on participatory notes could slowdown dollar inflows into the country, thereby weakening the rupee against the greenback. A weak rupee, or conversely, a strong dollar is crucial to IT companies’ bottomlines as they earn a significant portion of their revenues in dollars.

While the major indices ended around 2% lower in a volatile session, IT stocks weathered the storm. The CNX IT index closed 1% higher, led by gains in frontline shares. Leading the pack was TCS, which rose 2.5%. HCL Technologies gained 2.1%, while Infosys rose 1.2%.

“The market is considering the development as a serious attempt by the government to curb the appreciation of the rupee against the dollar. The government’s intent in this regard is clearly visible,” says Prabhudas Liladhar’s Apoorva Shah.
The rupee has appreciated by over 12% so far in the current year.

This has eroded the profit margins of IT companies as they earn more than two-third of their revenue from the US market. As a result, investors have been shying away from IT stocks, causing these stocks to underperform. The CNX IT index lost 11.5% since the beginning of 2007 against the 34% gain in the Sensex.

The Sebi recommendation may see some easing of currency pressure on earnings of IT exporters. “The long-term trend in dollar still remains sombre. However, Sebi’s proposed regulation may reduce the speed at which the rupee is appreciating. This will give some relief to IT companies,” says Ventura Securities head of research Subramanian Pisupathi.

According to him, fundamentals of the sector are strong. He says, ”There is nothing inherently wrong with the sector. Companies are posting results in line with expectations. Hiring and demand trends look firm. It’s only the stronger rupee that is bothering the sector.”

However, the Sebi proposal, if approved, would provide solace to the IT sector only in the short term. On a long-term perspective, analysts expect the dollar to continue its depreciating trend. “In the commercial world, regulatory checks work to an extent. In the long term, however, it is difficult to expect FII flows to slow down,” says Mr Pisupathi.

Attempt to control capital inflows will help in restraining adverse rupee movements as the money flowing in may slow down and send postive signals to the IT sector. In the near term there may be capital outflows, resulting in a weaker rupee. However, they add that the clear picture would emerge only after October 25, says Sushil Finance IT analyst Parikshit Kandpal.

The performance of IT companies on Wednesday only proves the point that diversification across sectors helps even if the sector per se looks unattractive. In the medium-term, investors can use IT counters as hedging mechanism if the government ends up tightening FII inflows.