Indian Stocks Remain In 'Sweet Spot' With More Upside Likely, Says Morgan Stanley

The Indian stock market continues to remain in a "sweet spot" across the globe with more upside to the rally expected, driven by a recovery in earnings and spending upticks by the government and private capex, according to Morgan Stanley.

The market, especially the small and mid-cap stocks, "continues to defy gravity and climb a wall of worry," Ridham Desai, equity strategist at Morgan Stanley, said in a note on Sept. 30. "We expect strong growth signals in the months ahead, accompanied by heightened capital market activity."

Corporate profits remain in an upcycle, and will see a recovery in earnings from the election-impacted June quarter, the note said. Government and private spending has picked up and is on a recovery path, led by rural consumption. "Our earnings estimates are ahead of consensus, underpinned by increasing private capex."

Morgan Stanley expects sub-par equity returns globally, but "India remains in a sweet spot with its low beta." If the rally in US stocks continues, Indian equities will likely underperform, yet continue to rise in absolute terms, the brokerage said.

Meanwhile, the recent liquidity stimulus by China to boost the economy might result in underperformance for Indian stocks in the short term. The Chinese benchmark index—CSI 300—rose for a ninth straight day with an 8.5% jump on Monday.

On the primary market front, the "issuances are likely to increase FPI flows, also aided by India's rising weight in global and EM indices."

Morgan Stanley expects the Reserve Bank of India to maintain status quo on rates, while allowing liquidity to be less tight in the coming month. The next meeting of MPC will take place from Oct. 7 to Oct. 9.

The upcoming state elections in Maharashtra and Haryana, will attract attention, the note said. "This is because of the rising tendency of state governments to resort to populist spending ahead of elections." Any such incidents will partly neutralise the central government and RBI's efforts to contain inflation, it said.

The NSE Nifty 50 and the 30-stock BSE Sensex have risen 18.7% and 16.7%, respectively, so far this year, making them the eighth and tenth best-performing Asian indices.