The Sensex surged to a record on Friday as blue chips rallied on the back of strong foreign buying, in a remarkable turnaround from two months earlier, when the rupee hit record lows and threatened a crisis of confidence.
The Sensex has been propelled by foreign inflows of around $3.5 billion since the Federal Reserve unexpectedly delayed tapering of its monetary stimulus.
The foreign buying comes despite mixed signals in an economy growing at its slowest in a decade, with analysts seeing new challenges ahead as the central bank raises interest rates to curb stubbornly high inflation.
That has made some investors cautious about whether a rally that has sent the index up 21.5 per cent since a yearly low on August 28. can be sustained.
"I am not too pleased with the way fundamentals are shaping up. This new high is driven by only a handful of stocks which are hopelessly expensive, despite fundamentals," said fund manager Phani Sekhar at Angel Broking.
"The liquidity rush is making people accumulate stocks. If fundamentals don't improve or liquidity tapers, then this rally won't have many legs."
The Sensex rose as high as 21,293.88 points, a gain of 0.6 per cent for the day, surpassing the previous record of 21,206.77 points on January 10, 2008. It ended Friday up 0.2 per cent.
Despite the record high, the Sensex remains Asia's fourth-worst performer this year in dollar terms among the exchanges tracked by Thomson Reuters, with a fall of 2.6 per cent.
The returns have been hurt by a weak rupee, which hit a record low of 68.85 in late August, that had sparked concerns about a currency crisis in the country.
Those concerns have subsided, thanks to the delay in the Fed tapering and steps to steady the rupee taken by India's new central bank governor Raghuram Rajan.
Still, challenges to the broader economy remain. Manufacturing activity contracted for a third straight month in October, data on Friday showed, for example.
Signs of weakness are keeping the economic outlook uncertain even as other data show signs of improvement, including a report showing India's infrastructure sector output rising at its fastest in a year.
The World Bank last month slashed its growth forecast for Asia's third-largest economy to 4.7 per cent in the year ending March, below the decade low of 5 per cent in the previous fiscal.
The Reserve Bank of India also raised interest rates by a quarter per centage point for a second consecutive month in October, to fight accelerating inflation.
Indian shares are expensive compared to regional peers, trading at about 14.4 times trailing 12-month earnings compared to 10.6 times for Asian emerging markets, Credit Suisse said.
Yet blue chips have been gaining. The Nifty rose 0.1 per cent, also within sight of a record high set on January 8, 2008.
State-owned banks gained for a second consecutive session on Friday on hopes of stabilising asset quality, sending State Bank of India Ltd up 5 per cent.
Among other lenders, Bank of India rose 5.5 per cent, while Bank of Baroda surged 4.5 per cent.
Infrastructure Development Finance Co Ltd shares jumped 6.8 per cent after its September-quarter consolidated net profit beat some analyst expectations.
Hero MotoCorp Ltd gained 1.1 per cent after the company said October sales rose 18.2 per cent.
Dr.Reddy's Laboratories Ltd gained 0.6 per cent after its September-quarter consolidated net rose 69 per cent to 6.90 billion rupees.
Shares of Titan Co Ltd fell 2.1 per cent after its September-quarter net profit missed some analyst estimates.