When pessimism peaks, nobody wants to stick their neck out. Everybody wants the pessimism to abate so that they can invest with better visibility. However, the best returns are almost always made by investors who stood against peak pessimism and showed investment confidence. Whether it concerns a market, a sector, a theme, or a company, how one marshals his conviction under extreme adversity determines future investment performance.
This June, peak pessimism was evident in a sector which most investors perceived to be safe at the start of the year. To go from being a very safe sector to becoming the sector to avoid in just six months is indeed a rare event. However, that rare event triggered a fear psychosis that affected even other industries. It affected the investor perception of several other sectors whose fortunes depended on that sector.
The Information Technology sector saw so much value destruction in six months, that it shook investor confidence, moved FIIs to dump these stocks, and forced DIIs to turn underweight on companies they had earlier perceived as must-own, safe-buys. The last few days seem to have suddenly changed the mood. While pessimism is still very much in the air, the extremity is definitely down and value seeking investors are looking at this space as a contrarian bet in an otherwise expensive, overvalued market.
The valuations seem to provide a safety net for investors making a contrarian call on the sector. However, concerns about the sector remain even though investors realise the fears may be overdone. When more and more investors start perceiving the fears to be overdone, a perception shift begins to build among investors. Contrarians take bold bets hoping that future news flows will soften and wear out the pessimism. Positive news flows, deal announcements, mergers and acquisitions, all come into play when valuations are cheap and businesses look to alter public perception through proactive corporate actions. We still have some time to go before we see evidence of a deeper shift in information technology stocks.
We are still at a time when the market thinks that the current rally in the tech sector is a dead cat bounce, rather than a mean reversion trade that is just starting. Investors think that after the results and management commentary, the pessimism would return to haunt the sector’s blue chips.
However, there is also a school that believes that phases of extreme pessimism are the best time to show conviction in a beaten down sector. They feel that such conviction only requires patience while waiting for the good times to play out. The steep fall in tech stocks has definitely left retail investors and industry watchers in a state of shock and disbelief. It remains to be seen how they find direction in these stocks when they have a long way to go just to recover their cost of acquisition.
Overall, the jury on tech stocks is sharply divided and both sides are confident that their stance will be proven right.
