There is considerable scope for appreciation of the Indian markets, compared with developed markets, which are set for an extended period of low returns, Morgan Stanley analysts said at a conference on Thursday.The potential rise, however, is expected to be in line with those of other emerging markets and outperformance is unlikely. Morgan Stanley has recently downgraded India from overweight to equal-weight.“India is not our top pick. It is not as cheap as some of the other emerging countries and we believe that there is a less potential upside,” said Jonathan Garner, chief Asian and emerging market strategist at Morgan Stanley.Nevertheless, at a 30% upside from current levels till the end of the year, domestic indices are set to considerably outperform their developed peers, which are grappling with slow growth and other issues. “This is typically seen after a big bear market. Developed markets are expected to see a 20% decline this year,” said Gerard Minack, global macro strategist at Morgan Stanley.Developed economies are expected to face bigger near-term structural stress and are weighed down with public sector debt, which has replaced private sector debt, he said. However, Indian markets too face certain risks, not the least of which is expensive valuations.“India is trading at a 50% premium to its peers compared with historical averages of 20%. On a relative basis it does seem expensive,” said Jonathan Garner.

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The MSCI emerging market index is trading lower than its long-term average on earnings, while India is currently higher than its long-term averages.

The MSCI EM index is trading at 9.6 times its one year forward earnings, compared with its long term average of 12.1 times.  The MSCI India index is trading at 14.8 times compared with a long-term average of 13.4 times. Indian markets have outperformed emerging ones during the period of the recovery. Since January 2009, domestic markets have given returns of 79.15% while the emerging market index has risen 59.90%.This has resulted in foreign institutional investors turning net sellers by Rs 9,341.35 crore in May, a move many analysts ascribe at least partially to profit-booking. In the first two sessions so far in June, they have been sellers by Rs 600.40 crore.

There still exists scope for certain institutions to increase their weightage to India through increased allocation to emerging markets.

“Pension funds currently have 5% of their equity portfolios allocated to emerging market stocks whereas they actually comprise 13% of global markets on a free-float basis,” said Garner, suggesting that this could change in the days ahead.Meanwhile, the Sensex on Thursday gained 280.49 points or 1.68% to close above the 17000 mark at 17,022.33. FIIs were net buyers by Rs 406.22 crore, according to provisional figures from the exchanges.