Earnings remained muted for the Nifty50 companies in the first quarter ended in June, witnessing an impact of weak demand, slow private sector capital expenditure, liquidity tightness and global trade issues. According to a report by Kotak Institutional Equities, there has been a big mismatch in earnings expectation at the start of the fiscal year and the actual numbers that come in realty at the end of the year.

Share Market Live

NSE

Nifty-50 earnings have grown at a CAGR of 3 percent in the last five years. At the start of FY20, Bloomberg consensus was showing earnings CAGR of more than 20 percent for the next two years.

Before the Q1 earnings season, Kotak Institutional Equities was projecting Nifty50 earnings for FY20 and FY21 to go up by 24 percent and 16 percent, respectively.

"Going by the Q1 results that have come till date we could see a meaningful cut in earnings of Non-BFSI companies for the whole of FY20. Second-quarter of FY20 is also looking as challenging as the first quarter. Hence, the earnings forecast of Nifty50 for FY20 could get cut by 4-6 percent," it said in the report.

The major concern for the market currently is the serious slowdown seen in various sectors that seemed cyclical at the start but are turning out to be structural in nature. To reverse the current slowdown tough economic reforms would be needed.

Consumption led growth and high government spending could be running out of steam and the brokerage is not seeing any revival in private investment.

"The slowdown in consumption largely reflects moderate growth in household income and higher taxes on households. Private investment will continue to remain subdued without radical reforms to investment and Government capex cannot increase meaningfully without straining the fiscal," Kotak explained.

Although there is surplus liquidity in the system, the ‘liquidity’ and ‘solvency’ issues faced by NBFCs still persists. Most of the manufacturing industries led by automobiles have also been facing slowdown for more than two quarters without any sign of revival.

However, there is hope that activity could pick up on the ground closer to the

festival season but the post result commentary of most managements does not match with this expectation, the report added.

Despite global geopolitical tension and talks of a trade war, stable currency, lower crude prices, and lower bond yields are still in favour of the Indian markets.

The single most disappointment factor, according to the brokerage, is potential cut in earnings forecast that could increase the forward valuations of the Indian market.

Portfolio strategy:

On a broader basis, the brokerage prefers mid and smallcaps as compared to large caps. Most Mid and smallcap stocks have given up most of the gains in the last few months making their valuations attractive at current levels.

Going forward, maximum upside potential could be witnessed in the BSE Small Cap Index, Kotak suggests.

"The current correction and beaten down prices of mid and small caps offer good time window to accumulate stocks from a 2-3 year perspective. Given the poor sentiment and high perceived risk towards corporate governance issues it is prudent to buy good quality companies having reasonable earnings growth forecast and reasonable valuations," it added.

In terms of sector preference they prefer larger banks, select large NBFCs, life insurance companies, capital goods, and construction companies, utilities, select oil and gas companies, healthcare services, and select FMCG companies. Stronger currency and global uncertainty make them wary of IT and pharma sector.

Here are the top investment ideas by Kotak post Q1 earnings:

Disclaimer: CNBCTV18.com advises users to check with certified experts before taking any investment decisions