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The markets have been on a roll thanks to strong liquidity coming in from exchange-traded funds and foreign institutional investors. In fact, according to Naresh Kothari of Edelweiss Capital domestic institutions too have kept some money on the sidelines. "Fundamentally things have become fairly expensive across a few companies. And this is not a fundamentally-driven market; it is purely technically-driven."

In an interview with CNBC-TV18's Udayan Mukherjee and Sonia Shenoy, he said there is a distinct possibility of the bourses touching old highs of 21,000 on the Sensex and 6,000 on the Nifty if liquidity continues to surge. However, it is difficult to say whether this would happen in the next 6-9 months or over 12-18 months. "If it happens over a longer period, then obviously fundamentals would have caught up and therefore you are a little bit more confident about the way the markets have moved. But if the surge happens in the short-term, the markets will again get into some kind of a correction zone, after they touch any of these numbers."

In his interview, Kothari also spoke about his favourite stock and sector picks. He finds the banking, financial services and insurance (BFSI) sector performing brilliantly in the near term along with capital good companies, which although are not cheap will continue to see reasonably good interest. He also likes the passenger cars and commercial vehicle segment but has a neutral view on the two-wheeler space.

Below is a verbatim transcript. Also watch the accompanying videos.

Q: You think we are headed higher on the back of strong liquidity flows or would you be cautious from here?

A: Obviously you have to be cautious but liquidity seems to be very strong. The view is stay invested because liquidity is coming in. We are seeing a lot of exchange-traded fund (ETF) money-now the hedge fund money which is waiting on the sidelines which had booked some profits again looking to re-enter. Foreign institutional investor (FII) liquidity seems to be very strong. Domestic liquidity is waiting on the sidelines. In fact domestic institutions have booked and kept some money on the sidelines. So that liquidity is also going to be waiting for sometime.

I think retail has also been largely sellers rather than buyers in the market. They will have some more liquidity. So net-net, I think liquidity is there in the system and that is the critical point at this point of time. Fundamentally things have become a little bit more expensive or are fairly expensive across a few companies. You wouldn't be fundamentally driven in this market very strongly, currently, purely technically driven.

Q: The street is a little divided on the kind of global trend that we may expect to see in the next six-seven months. How have you gauged all of the data that has come out so far?

A: It is very confusing. In fact, the way we are seeing things, a few days back there was complete gloom and doom. In the last seven days sentiments have changed completely and globally as well. I think we will be in this kind of an uncertainty zone for the next five-six months.

Every time you will become very optimistic about the set of things, I think some negative numbers will come in. The reality is that things are not extremely good. Neither are things very bad. Globally almost all governments are reacting very fast to negative news. You are not going to allow the markets to go away or fall very significantly.

Of course one of the biggest reactions that we see from most governments is pumping of liquidity. Therefore, when you look at markets like India and maybe Brazil, China some of the markets where there is growth, a lot of this liquidity keeps on trying to find its way to our markets. Therefore our view on India even though valuations are not necessarily very attractive continues to remain pretty okay.

Q: What do you see happening to the market now, in the light of the liquidity that you spoke about? Do you think the range will just get expanded a bit, will merely shift the band up from 5,300-5,500 to 5,400-5,700 or do you favour the possibility of a blowout happening fueled by this liquidity, which takes the Nifty to levels which people are not talking about right now, maybe 5,800-5,900 or even 6,000, over the next few months?

A: Very possible. In fact we were discussing that this is a very possible scenario. Liquidity historically has always surprised people on the upside because when the surge of liquidity comes in and suddenly what you see is, the market goes well beyond numbers that you thought were rational, the last few hundred points on the Nifty or a couple of 1,000 points on the BSE Sensex, are typically what you would not expect to happen.

There is a reasonable offside chance that you may want to look at the market touching the older highs going somewhere close to 21,000 on the Sensex even maybe 6,000 on the Nifty is a distinct possibility, if liquidity surge continues to remain. I think over a 12-18 months period, we are reasonably confident about the markets. The only thing is whether this happens in the next five-six months or this happens over 12-18 months.

If it happens over a longer period, then obviously fundamentals would have caught up and therefore you are a little bit more confident about the way the markets have moved. If it happens in the short-term again the markets will get into some kind of a consolidation zone, maybe a correction zone, after they touched any of these numbers.

But it is very liquidity driven. If liquidity suddenly dries up over the next fifteen days, the markets might just stop and there might be a correction. The good thing is on the downside, fundamentals kick in very strongly. The downside range is probably close to 15,000-16,000 so that is about 5,000 levels. So you have a 10-12% downside, potentially you have 7-8% upside maybe close to 10% upside at max, that is a range. It has moved up but you are continuing to be in a range which is about 18-20%.

Q: What are the sectors that would help the market move higher from here? Anyone you pick, there seems to be a valuation bar that has been raised at this point. How would you tactically position your portfolio now?

A: Typically if it is liquidity driven, historically what we get to see is things that have moved up are the ones which continue to see more liquidity flowing in. You would want to be in the stronger sectors rather than trying to do a lot of bottom fishing in the weaker sectors. That is how liquidity typically plays out. It is very momentum driven. This time around what we are also seeing is there is slightly wider interest in the markets.

Therefore we have seen rallies in midcaps, we have seen rallies even in a lot of smallcaps. When liquidity keeps coming in, all those things will continue to remain. People will become more risk taking in nature and therefore will go across the board trying to find companies where valuations are attractive. Net-net what you will see is the whole level moves up, it is not as if a particular set of levels will move up.

Typically if good numbers come in, you will see stock prices reacting very well. If bad numbers come in, liquidity is there, there might be a couple of days of negative reaction, the stocks will not react negatively after that, remain stable, maybe come back to original levels. That is the typical behaviour that should be expected if liquidity is the one which is driving the whole thing.

Two-three sectors look interesting. I think in the very short-term maybe in this particular quarter, banking sector might not have a great time because of interest rates having moved up and their securities portfolios getting marked down. Treasury profits might not be there. If you look at the next two-three quarters, credit off take on the banking sector continues to look good. The entire banking, financial services and insurance (BFSI) sector looks good.

Capital goods-we believe we are doing a lot of work around the whole capital good space. Capex driven investments have started happening in a very significant manner in the economy. Therefore capital goods companies, although they are not cheap will continue to see reasonably good interest. The entire consumer space continues to remain good, although things are again expensive. You might see things which are expensive become a little bit more expensive.

Q: There has been some hectic activity brewing in the entire auto space, lots of capacity expansions, lots of fund infusion. Do you think the pace of growth will be maintained now?

A: What we have seen in the last couple of months that is reasonably furious. We don't believe the pace of growth will be that furious. Overall, we are very positive on passenger cars, reasonably positive on commercial vehicles (CVs), almost neutral on two-wheelers. We don't think two-wheelers are going to be very attractive, but passenger cars and CVs. We continue to remain reasonably positive on both of them.

Q: What about cement? There was suddenly a flurry of activity over the last one week. What do you make of it?

A: Our view is still slightly more technical in nature. Overall the two big things, which have not moved in the market as much, are basically the asset owners, both the infrastructure asset owners and the real estate asset owners. If you look at on the ground real estate, by and large, prices have not come down in fact prices have been very steady, demand has not been great but construction activity in the real estate sector is pretty good.

At the infrastructure level also, I think capital has been available and construction activity has been reasonably good. If you speak to all the construction guys, not the asset owners but the guys who are building up the assets, most of them have very strong order books and are also implementing it pretty aggressively. Theoretically therefore cement seems to be in a reasonably good position.

The key challenge is the demand/supply situation. Therefore what you are seeing right now is as price per bag goes up, technically the stocks start moving up and running in sympathy with that, but fundamentally it is another 6-12 months before which the sector will become a little bit more stable. The other two things that we should also look out for are both real estate companies and infrastructure companies where especially the asset owners are partly suffering because of the higher interest rate environment that we moved into over the last two-four months and therefore not reacting well.

This is partly because of the continuous cash calls that these companies have to make or the supply of paper which is there. Companies where both these parameters or at least the supply of paper is not going to be strong, I think those companies will start outperforming the pack.

Q: Do you think we can enter a phase where the Nifty goes into a 100-150 point kind of range once again but the broader market starts bursting out, as in the midcaps and smallcaps once again begin a big streak of outperformance?

A: Possible, but at a slightly higher level from here. The ETF money will then get followed through by the hedge fund money. The hedge fund money will be more stock specific in nature and will go after the broader market trying to search for value. The ETF money typically tries to be more allocation driven and index driven. You will see the index continuing to do well and then follow through happening across the wider stock basket. But it is reasonably possible.

I think to be fair there is also a lot of activity on the ground in the midcap companies. India has enough number of stocks and companies, which are doing very well. It is a much wider opportunity any which way and therefore if valuations are fair, you should see a lot more flows happening into those stocks.

Q: You were talking about asset owners earlier, how do you position yourself in a story like Gujarat Pipavav ?

A: My personal view on that, I would like to wait and watch for at least a couple of quarters. I am not necessarily very bullish on this particular asset and especially at these particular valuations. It is more a broad call and I think what I would love to do in asset ownership kind of a situation right now is to do good, strong, bottom fishing, especially in companies where corporate governance is high and where dilutions are not around the corner.

It is especially true for real estate and also true for a lot of asset ownership companies otherwise. Since the market has to go up and if liquidity keeps on flowing in, you will see the interest going up. One of the biggest problems with asset owners' especially real estate sector has been the slew of liquidity which has been lined up.

Everybody is worried that there will be 10-15 more companies almost all the large unlisted companies - also quite a few of the listed companies would want to do a follow-on offering. So there could be an enormous amount of paper supply in that sector, which is what has kept most people slightly vary of investing aggressively into the sector.

The view I have is if people are not going to this money, if people have adequate cash on the balance sheet and their projects are doing pretty okay, you should go out after those companies. If they have good corporate governance standards then it is all the better. I would go after asset owners in that particular basket not necessarily chase momentum in their asset ownership basket right now.