IT stocks in focus ahead of Q3 results. Which ones to buy and sell?

NEW DELHI: After an 'annus horribilis' in 2022 for IT stocks, which crashed up to 40%, investors are not expecting a 'mirabilis' or miraculous year in 2023 as Indian tech companies start reporting their quarterly numbers from next week. Tata Consultancy Services (TCS) would be the first one to release its Q3 earnings on Monday.

Global brokerage firm Jefferies fears that a moderation in growth expectations will drive further PE derating, similarly to what was seen last year while JP Morgan said mean reversion in growth-driven earnings misses should deflate and reset valuations.

"While Q3 growth is likely to be blamed on furloughs, we believe weak Q4 growth and poor CY23/24 guides over February-May should drive a sharp expectation reset over the next 6 months and set in motion P/E contraction to pre-Covid averages (30-40% lower," JP Morgan analysts Ankur Rudra and Bhavik Mehta said. They expect revenue growth of Indian IT services to reset from mid-teens to mid to high single digits from tight tech budgets and pricing pressure.

Jefferies said recessionary pressures are likely to impact CY24 budgets too which may drive further growth moderation and PE derating, keeping upsides limited.

Amid concerns around margins and growth outlook, at least 3 IT stocks - Wipro, LTIMindtree and Tech Mahindra - are down over 40% in the last one year period. All the remaining ones have also seen double-digit losses.

Although the broad consensus on Dalal Street is to avoid IT stocks now, there could be money-making opportunities both for momentum traders as well as patient long-term investors who are buying the dip.

Here are top IT stock ideas from brokerages ahead of the earnings season:

Jefferies
Jefferies expects aggregate growth to halve in FY24 to 6.8% with slight margin expansion and favor larger IT names. Infosys remains its only pick with a target price of Rs 1,760. The brokerage has hold ratings on TCS, Tech Mahindra and HCL Tech, and underperform ratings on Wipro, LTIMindtree and Coforge.

JP Morgan
JP Morgan remains cautious on the sector. It has neutral ratings on Infosys, Persistent, Tech Mahindra and Mphasis, and underweight on another 6 stocks - TCS, LTIMindtree, Wipro, HCL Tech, LTTS and Tata Elxsi.

Nomura
Nomura prefers largecaps over midcaps in the current environment, as it believes earnings risks are material in midcaps in a slowing demand outlook. In largecaps, its top buy idea is Infosys while it has maintained reduce rating on TCS. In midcaps, the top buy idea is Persistent.

Kotak Institutional Equities
In Q3, Kotak expects TCS and HCL Tech to report a relatively better quarter, while Tech Mahindra and Mphasis are expected to lag. "We expect investor focus on growth/decline in IT budgets for CY2023, the state of demand, and the pace of decision making. Infosys, HCLT and Mphasis are our top picks," it said.

Motilal Oswal
The domestic brokerage is of the view that HCL Tech and Cyient will lead topline growth within the Tier-I and midcap space in Q3. It prefers Tier I players over their Tier II counterparts, given the former’s relative valuation attractiveness and diversified client portfolio. Tier-I picks are TCS, Infosys and HCL Tech while within Tier-II, it prefers Mphasis and LTTS.

JM Financial
JM Financial has a buy rating on Wipro with a target price of Rs 480. "We expect CC revenue growth of 1.1% for Wipro’s IT Services, within its guided band of 0.5-2%," it said.

Nirmal Bang
It said investors should use the likely 1HFY23 strength to pare positions if overweight, especially in expensive Tier-2 set. "While the chances of a near term Fed pivot (due to likely financial/economic stress rather than lower inflation) and the consequent risk-assets run-up are fair, we persist with our ‘UW’ stance on the Indian IT services sector," it said. The brokerage has sell ratings on all IT stocks under its coverage.

(Disclaimer: Recommendations, suggestions, views and opinions given by the experts are their own. These do not represent the views of The Economic Times.)