Monday, 27 October 2008

A Blacker Monday?

(By Anthony Miller) After “Another awful week”, the new one has kicked off even more awfully. As I write (9:00 am), Asian markets have found deeper depths to plunge, with Japan’s Nikkei 300 down 7%, Hong Kong’s Hang Seng down 13% and India’s Sensex down 10%. The Indian SIs are faring even worse. TCS is down 13%, Wipro 19%, Satyam 14%, but Infosys appears to have got off lightly, ‘only’ down 5%. Mphasis, majority owned by EDS (and hence HP) is down over 20%. The major UK software and IT services (S/ITS) stocks have mostly started the day down, as has the FTSE 100 (-5%). And then to really cheer us all up, the FT reports a Wave of profit warnings expected, though for a growing number of S/ITS companies that’s yesterday’s news!

But there is another factor at play which wasn’t so prevalent in the last downturn which, for some UK S/ITS players, may offer a little salvation on earnings. And that is currencies, more specifically, the dollar. As confirmed in the chart above, the pound has depreciated 20% against the ‘greenback’ since the beginning of the year. This will give a welcome boost to UK companies with high revenue exposure to the US. To be honest, this mostly favours UK software players, such as Autonomy, Misys and Sage. Our leading IT services flag-bearer, Logica, has less than 5% exposure to the US (which is no bad thing in my opinion for reasons I’ll explain in a later piece). In contrast, the pound has ‘only’ lost about 7% against the euro this year, but this will have a far greater proportional impact to UK players (e.g. Logica gets over 40% of revenues from the Netherlands, France and Germany alone). To complete the picture, the pound is pretty much where it started the year vs the Rupee, leaving both UK firms with offshore operations in India, and Indian SIs operating in the UK, close to neutral.

But currency is a two-edged sword. Obviously, when currencies go the ‘wrong’ way, getting the hedging bet wrong (or not hedging at all) can leave a nasty hole in the accounts. But from a stock point of view, volatile currencies add another layer of uncertainty over company earnings beyond the fundamentals. And there’s nothing the market hates more than uncertainty. Some S/ITS companies may be able to play a ‘get out of jail free’ card on ’08 earnings if currencies move in their favour, even with poor underlying performance. But few will get any parole on their stock price.

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