AI Threatens IT Sector: Co-founder Urges Investor Caution

Ametra PMS co-founder Karan Aggarwal has cautioned investors to steer clear of the IT sector, citing significant potential disruptions from artificial intelligence. He anticipates a challenging transition period for the sector, recommending a strategy of avoidance for the upcoming quarters to observe its evolution. Aggarwal explicitly advises against rushing to purchase IT stocks at current prices.

Beyond the IT industry, Aggarwal expresses greater concern for the discretionary consumption sector. He projects this segment may experience stagnation for several years, attributing this outlook to AI's potential to trigger widespread white-collar job losses and reduced pay packages, impacting the middle class.

The broader market shows signs of weakness, with poor breadth and significant price corrections in small and micro-cap indices. A key issue identified is the disconnect between current high valuations and actual earnings growth. For instance, the Smallcap 100 index trades at a premium P/E of 26, significantly above the comfort level of 20.

Technically, market charts also appear weak, with the Nifty 50 repeatedly breaching its 200-day moving average. In the absence of major global catalysts, markets are expected to trade within a narrow band for one to two quarters. A significant EPS re-rating is unlikely before the next earnings season in April 2026, due to existing sector challenges.

Aggarwal sees limited upside for the Nifty 50 in calendar year 2026, projecting 8%-10% returns, contingent on favorable global developments like potential US Federal Reserve rate cuts or a de-escalation of US-Iran tensions. However, he also notes the possibility of an 8%-10% erosion due to economic challenges in the US alone.

IT companies are expected to shift from a man-hour revenue model to an outcome-oriented one, which may lead to modest EPS impacts but improved margins. Investors with substantial IT holdings are advised to consider lightening their positions during any temporary market upticks. Sectors favored by Aggarwal include consumer staples, pharma, power, infrastructure, and rural consumption, which are less susceptible to IT sector employment trends or discretionary spending fluctuations.

While PSU banks have seen their valuation discounts narrow, they still present some upside potential, though the risk-reward ratio is less attractive than previously. The article suggests India's underperformance relative to global peers may be reaching a turning point, potentially attracting foreign institutional investors if global market valuations moderate.