BSE Sensex
BSE SensexReuters

Domestic stock markets are likely to witness a huge rally from the current levels, led by a recovery in corporate earnings in the coming quarters, according to global financial services firm Morgan Stanley.

Ridham Desai, head of Indian equity research at the firm, predicts the benchmark equity index BSE Sensex to reach 32,500 by the end of 2015. It represents a 22% rise from Tuesday's closing of 26,481.

Morgan Stanley expects Sensex companies to register 24 percent growth in earnings.

The Sensex has lost over 3,000 points from its peak in March, as sluggish demand and slowing investment growth weighed on the earnings of Indian companies in the January-March quarter. 

The credit profiles of some companies have shown an improvement recently, with the number of credit upgrades becoming twice those of downgrades, Morgan Stanley said in its report, according to Business Standard

"A pervasive improvement in credit quality remains elusive because the value of debt seeing downgrades is far more than those seeing upgrades," the report noted.

Ridham Desai and his colleague Sheela Rathi see lower interest rates, reforms and rising corporate balance sheets as positive factors for the markets.

The Reserve Bank of India (RBI) cut repo rate by 25bps to 7.25 percent last week for the third time this year, as easing inflation and falling industrial production provided scope for the central bank to go for it to boost demand. 

The Morgan Stanley report said the growth divergence between emerging markets and developed economies will continue this year.

India could remain as a "bright spot" among other emerging markets supported by increasing capital expenditure, it added.

Morgan Stanley expects volatility in Indian equities if the US central bank tightens monetary policy.

"Global growth, China growth, oil prices, EM news flow and US Fed moves as an indicator of global liquidity, among other things, are factors to watch," the firm said.