Mumbai: A sharp bounce by Indian equities in March after four months of decline has caught most analysts unawares. Yet, few expect markets to scale new heights so long as concerns on inflation, oil prices and earnings outlook remain.

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Foreign institutional investors (FIIs) pumped in $1.5 billion into Indian markets, driving up Sensex, the bellwether equity index on the Bombay Stock Exchange, by 9.1% in March, the second highest monthly gain in 22 months. The gauge closed at 19,420 points on Friday, 8% shy of its November peak of 21,005.

A Mint poll of 17 analysts and fund managers found most have been surprised by the extent the market turned around but still see it as a short-term phenomenon. As many as 15 of the 17 said the pull back was temporary as nothing fundamental had changed in the past month.

“We did not anticipate such a sharp pullback," said Prasun Gajri, chief investment officer at HDFC Life Insurance Co. Pvt. Ltd, which has assets worth about 25,000 crore. “Liquidity has been the major driver so far, fundamentals remain unchanged."

Bottom fishing at lower valuations, the relative resilience of Indian markets after a Japanese quake rattled investors worldwide and rising fund flows to emerging markets have led to the recent rally, analysts say.

“It is a tactical or technical pull back as Indian markets had been underperforming for the past few months and by the end of last month, most of the negatives were factored in," said Ajay Parmar, head of research at Emkay Global Financial Services Ltd.

Analyst say there is no catalyst for a sustained rally besides a possible reversal of the emerging markets to developed markets trade, which would drive higher flows to emerging markets, including India.

Data from Emerging Portfolio Fund Research Inc. show emerging market funds saw a net inflow of $2.6 billion in the week ending 30 March, the highest weekly inflow since the first week of January.

While the mood among analysts and fund mangers remains cautious, many draw comfort from the fact that Indian markets have been relatively resilient even in the face of high oil prices.

The resilience has been partly due to domestic institutions, which, unlike in 2010, have been net buyers so far. Domestic funds have purchased $2.8 billion worth of equities net of sales even as FIIs have pulled out $657 million so far this year.

“This year, domestic investors have been buying so far and that is a positive," said Apurva Shah, head of research at Prabhudas Lilladher Pvt Ltd.

Other emerging markets in Asia, which are largely oil importers, have also been rising in the past month. Asian markets have been resilient to a number of headwinds since the start of the year, including the emerging markets to developed markets trade, spike in oil prices and the fallout of the Japanese quake, said a 21 March note by Markus Rosgen, Asia strategist at Citigroup Global Markets Inc.

“The US dollar, even post the events in the Middle East and Japan, remains weak," Rosgen said. “As long as this is the case, this will remain a liquidity provider to the Asian region."

Still, most analysts surveyed do not expect fund flows to India to sustain unless oil prices correct or inflation declines. Ten of the 17 surveyed expect markets to remain range-bound for the next month or two. Besides crude oil prices and inflation, the earnings season will be the key determinant of market direction, analysts said.

“The permanency of any market rally is generally out of corporate earnings," said Huzaifa Hussain, head of equities at AIG Global Asset Management Co. (India) Pvt. Ltd, which manages 883 crore in assets.

Rise in commodity prices has led to concerns over earnings downgrades and fourth quarter earnings declared by firms will give an indication of firms’ ability to pass on input cost increases.

With most analysts having downgraded more stocks than they upgraded after the December quarter earnings, any major disappointment in earnings could dampen sentiment.

Typically, IT bellwether Infosys Technologies Ltd kicks off the earnings season in the second week of April.

Graphic by V Venkatesulu/Mint