Morgan Stanley remains in a bull market that started in March and even though one should expect corrections along the way, the equity market may have more legs before it tops out. Morgan Stanley raises EPS estimates and index targets too, including of BSE Sensex to a massive number.

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Raising estimates - growth and the rate cycle may have inflected:

Covid-19 infections appear to have peaked, high-frequency growth indicators are coming in strong, government policy action is beating expectations and Indian companies are picking up activity through the pandemic. Thus, Morgan Stanley expects growth to surprise on the upside, rates through to be behind and real rates to remain in negative territory for several months. Morgan Stanley lifts their F2021, F2022 and F2023 EPS estimates for the BSE Sensex 15%, 10% and 9%, respectively, Morgan Stanley  are now between 6% and 7% above consensus estimates .

December2021 target implies 15% upside from current levels:

The coming growth cycle is not fully priced in, thus, Morgan Stanley sees more upside to the index. By their estimates, the market will be trading at 16x forward earnings at new BSE Sensex target of 50,000 in December 2021 (old index target was 37,300 for June 2021). Expect the broad market SMIDs (small and midcaps) to beat the narrow indices or large caps in 2021 because Morgan Stanley thinks concentration of market cap and profits may have peaked with the return of the growth cycle. They also think portfolio returns are more likely to be driven by bottom-up stock picking rather than top-down macro forces, so keep sector positions narrow. Return correlations across stocks with the equity market have risen to levels from where they tend to mean revert.

Equity portfolio strategy:

Morgan Stanley expects domestic cyclicals to outperform exports, with rate sensitives and consumers outperforming whereas energy should underperform. Morgan Stanley adds another 100 bps to Financials at the expense of Healthcare and also adds SBI to our Focus List while removing Apollo Hospitals. Morgan Stanley is overweight in Consumer Discretionary, Industrials, Financials and Utilities. They are underweight in Technology and Energy.

In Road to 50K,a report issued back in 2007, MS opined that the BSE Sensex would likely take 13 years to get to 50,000. A lot of water has passed under the bridge since then – things never forecasted, including the Global Financial Crisis, the 2013"taper tantrum," currency replacement (a.k.a. "demonetization"),and the latest COVID-19 crisis. Yet, it appears that the forecast is not proving to be way off the mark if 2021 call goes right. As usual, it warned readers that it gets a lot of forecasts wrong, so it is highlighting this particular one only because it is surprised by its relative accuracy. BSE Sensex target of 50,000 implies upside potential of 15% to December 2021. This level implies that the BSE Sensex would trade at a forward P/E multiple of 16x and a trailing P/E of 19.3, in line with the 25-year average of 19.7x. Old target was 37,300 for June 2021 - overweight in India in a GEMs context. The subsequent sections explain view.

Base case (50% probability) BSE Sensex : 50,000:

This assumes stability in the current virus situation and a recovery in the economy per Morgan Stanley's forecasts. We expect Sensexearnings to rise 7% in F2021 and 32% in F2022. The government is not required to launch a fresh fiscal program thanks to the ongoing recovery in the economy but continues to pursue both administrative and legislative reforms.

Bull case (30% probability) BSE Sensex : 59,000:

The virus situation improves, the recovery in growth is sustained,and global stimulus supports asset prices. The government continues to deliver policy including infrastructure creation,ease of doing business,and fiscal consolidation. The US dollar enters a bear market,accelerating flows into EM including India. Earnings growth reached 11% in F2021 and 37% in F2022.

Bear case (20% probability) BSE Sensex : 37,000:

The virus issue lingers well into 2021 and growth falters. India fails to deliver an adequate policy response, leading to losses in the financial system. Sensex earnings grow 3% in F2021 and 28% in F2022 but equity multiples de-rate to reflect poor macro conditions.

There are four main things to focus on with respect to the growth outlook:

1)       Covid-19 infections appear to have peaked and Morgan Stanley does not expect another national lockdown.

2)      High-frequency growth indicators are strong.

3)      Government policy action has been surprisingly strong.

4)      Response from Indian companies has also been strong

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The pace of the fall in Covid-19 infections is slowing after the dramatic decline from the middle of September when daily infections peaked at 97834 (now at around 45000 on a trailing seven-day average)

Testing yields have stabilized at around 4.3% from a peak of 12.9% in late July signalling a significant slowdown in the spread of the virus.