IT will be closely watched in months to come

An average return of 105% over the past six months —that is what an average technology sector fund has given. During the same time period, an average diversified equity fund delivered 77% and the Sensex returned 77.48%.

After a lull of close to two years, things seem to be looking up for these funds. In part, this has also been due to the falling rupee, which in turn, has meant more bang for each buck these companies which essentially earn their revenues from overseas. Comparing the performance of the IT sector with others, we find that the sector has emerged the third-best performing since the beginning of this year. The top two best performing sectors were metal and auto. However, this is in stark contrast to the trend in 2007 and 2008, where the sector was among the worst performers.

The period between 2003 and 2007 was the longest and most profitable bull run in the history of the Indian economy; The Sensex moved up from 3390 points to 20286 points. In 2003, the IT sector specific mutual funds managed to deliver 71.43% returns, while in 2006 they delivered 45.57% return. These returns were outstanding compared with the returns clocked by BSE IT.

This bull phase was brought to an end by the sub-prime crisis. The sub-prime crisis reared its ugly head for the first time in mid-2007 and severely hampered the outlook for technology companies, most of which depended on revenues from the overseas clients.

During 2007, share prices of the giant IT companies such as TCS, Wipro and Infosys hit rock bottom as they dipped in the vicinity of 50%. In the initial months of 2007, the prices of TCS hovered around Rs 1,300, which dropped to approximately Rs 944 by November. A similar trend could be seen in the case of Wipro and Infosys. These scrips were among the most popular within the IT sector.

The scenario in the current year stands in stark contrast to the trend over the past two years. The performance from January 2009 till date, on an average, has been as high as 77.52%. The stock prices of companies like Wipro and Infosys have moved up, on an average, by more than 100%. The sector-specific mutual funds consequently increased their exposure in core technology companies to 74.35% in July from 61.97% in January 2009.

For more than a decade, the technology sector was aggressively courted by mutual fund schemes. In fact, paying little heed to principles of diversification, mutual fund schemes hoarded technology stocks. And then came the dismal dotcom bubble burst phase of 2000-01 and mutual funds in India learnt the lesson of diversification the hard way. While better diversification in portfolios emerged, technology stocks, however, continued to take the centrestage in the portfolios of diversified equity schemes.

The data reveals that up until March 2007, the allocation to technology scrips by the average diversified equity fund rarely dropped below 10%. As an average, across a wide range of diversified equity schemes, this number is large. However, the allocation to the sector almost halved during 2007. Since March this year, there has been a trend reversal of sorts with a discernible uptake in the positions taken in the IT sector. However, it remains to be seen whether the sector will win back patronage of diversified equity schemes.

A similar trend is evident in case of sector schemes. Sector schemes, by their nature, can at best stack money in cash, in case of absence of any lucrative opportunity in the sector. However, this hasn’t been the case for technology sector funds. There was a discernible move towards allocating funds to alternate sectors such as telecom and entertainment. DSP BlackRock Technology.com was a trendsetter in this respect. The fund management had enough foresight to include a broader segment in its investment objective. In fact, it is only after DSP BlackRock Technology.Com tasted success with its investments outside core technology companies that other IT sector funds began to diversify their holdings. The only scheme that refrained from doing so was Franklin Infotech Fund, which consistently invested in core technology companies. At the same time, some fund houses like UTI and Kotak discontinued their technology schemes and merged these with other diversified equity schemes.

The key to sustaining this recent performance by the sector will hinge on the rate of recovery in the western economies. While domestic demand has enabled the sector to stay afloat, larger gains will come from businesses overseas. Whether the current scenario marks a trend reversal is yet to be clear, but we are certain that this sector will be closely watched over the coming months.