Where is the market headed? The market value-to-GDP ratio — known popularly as the Buffett indicator, named after legendary investor Warren Buffett — suggests valuations have cooled off from rather more unattractive levels for much of 2022. And many experts — and the bulls — are eyeing a new rally to record levels in Sensex and Nifty50 before the end of the year. But is it soon for the bulls to cheer?

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As D-Street stands weeks from the New Year, Indian equity benchmarks have often shied away from inches within their all-time highs of October 2021 during much of 2022.

But factors such as unfavourable liquidity conditions, weakness in the rupee, wild swings in crude oil and higher material costs threatening margins, overheated valuations, and geopolitical tensions have postponed fresh lifetime highs.

What is the Buffett indicator, and what does it signify?

The Buffett indicator has returned to 105-odd percent from a peak of 134 percent. According to this much-touted market tool, equity valuations are considered expensive when their value crosses 100 and cheap - below it.

This comes at a time when foreign portfolio investors (FPIs), having purchased Indian shares intermittently, are yet to make a comeback on Dalal Street — in contrast to solid flows that powered the 18-month rally last year.

To put things into perspective, India's market value-to-GDP has averaged around 81 percent.

Will the bulls aid a rally to all-time highs in leading indices before the end of 2022?

Market expert Ajay Bagga expects fresh all-time highs in November 2022 itself followed by sideways moves and then a fall in February-March 2023 mirroring Wall Street.

"The US is likely to go up five-odd percent in the next 2-3 months and then correct sharply. The Union Budget will keep the market up for India followed by a correction," Bagga told CNBCTV18.com.

The market veteran is of the view that an investor should use the Buffett indicator and several other effective tools with discretion.

Indian valuations have gotten rid of at least some of the froth in the benchmarks' recent visits close to their all-time peaks. Some experts see more respite ahead, while others advocate a buy-on-dips approach to pick value stocks carefully.

If foreign fund flows are a sign, the market still has lots of ground to cover before attaining a 2021-like liquidity environment.

Though FPIs emerged net buyers of Indian equities for a month for the first time in 11 months in August 2022, they are still net sellers of Indian shares for the year so far. Even one month before the end of 2022, FPI outflows for the Street are more than three times the number recorded for the entire previous year.

The Nifty benchmark is trading at a forward earnings multiple of 19.6 times, which is broadly in line with its long-term average, according to Gautam Duggad, Head of Research-Institutional Equities at Motilal Oswal Financial Services.

"Valuations do have some room for upside, if you go by past cycles, but we must also remember that no two cycles are similar... When you look at India's valuations in the context of MSCI Emerging Markets, the premium now is a staggering 155 percent, which is at an all-time high because the rest of the markets have done pretty much nothing,” Duggad told CNBC-TV18.

Experts say the use of the Buffett indicator may be effective in gauging Wall Street valuations, but it poses certain limitations in a market such as India. "The Buffett indicator works in tight liquidity conditions and not in easy conditions," Bagga said.

Fund managers have mixed views when it comes to relying on the metric in the Dalal Street context.

VK Vijayakumar, Chief Investment Strategist at Geojit Financial Services, uses a combination of indicators including the mcap-to-GDP ratio to make a call. He relies on two other indicators: the price-to-earnings and price-to-book-value ratios.

Vijayakumar also expects new highs in the Indian market soon before any significant correction.

So what makes the Buffett indicator work differently for India?

"Much of the Indian economy is unlisted and non-formalised... Given the changes in composition of GDP over the past few years, the average should be higher than 81. Even then, being more than 100 percent indicates the market is mildly overvalued," Deepak Jasani, Head of Retail Research at HDFC Securities, told CNBCTV18.com.

The Buffett indicator in the Indian context is impacted by a slew of factors, including:

Trends in IPOs

The proportion of publicly traded companies among total companies

"All else being equal, given the large number of IPOs between July 2021 and Jan 2022, there was a large increase in the percentage of companies that are public versus private, sending the market value-to-GDP ratio higher even though nothing has changed from a valuation perspective," Jasani explained.