According to Barclays India equity strategy report, returns on Indian equities have largely been driven by earnings growth over the past 15 years.
"In contrast to this long-term trend, this year has witnessed a 27 per cent return of which 19 per cent is due to multiples expansion. While this could be due to raised expectations on the back of change in India's political leadership, we believe that positive earnings momentum is required to sustain these returns," Barclays said.
Despite this strong run, markets do not appear expensive yet with the one year forward valuation ratios for the BSE-100 Index at or near its 10-year average level.
Further, comparing Indian equities to global equities, we find that the Indian equities valuation premium (P/E) over global equities is only 10 percent currently, which compares to the last 10-year average of 14 percent, the report said.
The earnings remain the key driver of the Indian market.
Barclays analysis indicates that over a 15-year period, earnings remain the biggest driver of market performance, not only at the index level but also for sectors.
The forecasts for the Nifty suggest EPS growth of 16 per cent in FY'15 and 17 per cent in FY'16 post an insipid 9 per cent in FY'14 and have exhibited positive momentum in past three months. Economic data is also positive with increase in auto sales growth.
While we believe that markets could time correct in short term, positive earnings momentum and strengthening economic data, gives us comfort on the medium-term uptrend, it said.
Sectors which have strongly participated in YTD rally are industrials and financials industrials and financials have witnessed the highest valuation re-rating (YTD CY14) with 76 per cent of the cumulative returns in industrials and 74 per cent of the cumulative returns in financials owing to multiple re-rating, according to the report.
Multiple expansions have been witnessed across most sectors except consumer staples which have witnessed multiple contractions, it added.