A 25-basis-point rate cut and signals of additional cuts this year by the US Federal Reserve have raised speculation that foreign institutional investors (FIIs), who have been relentlessly selling Indian stocks since July, may return to the Indian market. Lower US rates could soften the dollar and drag down bond yields, prompting FIIs to look at emerging markets for better returns.
FIIs have sold off Indian stocks worth ₹1.06 lakh crore in the cash segment since July. In September till 17th, they have offloaded Indian stocks worth over ₹11,000 crore in the cash market.
Weak earnings and stretched valuations of the Indian stock market have been key factors driving FIIs away from the Indian markets. Tariff-related uncertainties, elevated interest rates in the US, the rupee’s weakness, and the dollar’s rise have also aggravated the outflow of foreign capital.
Can the Fed rate cut drive FIIs back to Indian stocks?
Fed rate cuts are generally seen as positive for emerging markets like India. However, at this juncture, it appears unlikely that the cuts will quickly reverse the trend of FII outflows.
One reason is that the Fed is unlikely to cut rates by more than 100 bps in this cycle — a move that would significantly ease US bond yields and the dollar, thereby triggering inflows to emerging markets. While the Fed appears worried about a cooling jobs market, it does not want to act in haste as inflation remains above its 2 per cent target, and Trump tariffs can accelerate inflation further.
Another reason is that the main drivers of FII outflows from India are weak earnings and premium valuations. Unless there is clear visibility on an earnings revival and valuations come down further, FIIs may stay away from Indian stocks.
However, experts say that FIIs cannot stay away from India for a long time because it remains one of the fastest-growing large economies in the world. The recent tax reforms, healthy monsoon, and monetary easing have further brightened the country’s growth outlook.
FIIs appear to be waiting for signs of earnings revival. The Q2FY26 earnings season will start in early October, and signs of green shoots and positive management commentaries could trigger a trend reversal in FIIs’ flow.
Pankaj Pandey, the head of research at ICICI Securities, expects corporate earnings growth to pick up pace in the second half of the current financial year (H2FY26), and believes Nifty earnings may grow at a CAGR of 12 per cent over FY25-27E.
Sujan Hajra, Executive Director and Chief Economist at Anand Rathi Group, noted that foreign ownership in India is now estimated at around $820 billion — close to its peak.
Hajra underscored that over the past 12 years, there have been only three occasions of net capital outflows from foreign institutional investors (FIIs): in 2018, 2022 and again this year. Even in these instances, FIIs withdrew no more than 2 per cent of their holding value.
This indicates that FIIs have not significantly exited India, and Hajra does not expect that to change.
He highlighted that India faces a growing scarcity of capital.
“Despite a market capitalisation of $4.5–5 trillion, nearly 50 per cent is held by promoters. Other ‘sticky’ investor groups also command large stakes, with institutions cornering about 70 per cent of the free float. This limited supply of available shares is one reason valuations in India trade at a substantial premium,” said Hajra.
Given this premium, Hajra believes a very large FII inflow in the near term is unlikely — although he also does not foresee a significant outflow.
Siddharth Vora, Head of Quant and Fund Manager at PL Asset Management, believes that FIIs will return to India due to improving macro fundamentals and after valuations come down further.
“With valuations becoming neutral relative to other emerging markets and geopolitical risks moderating, combined with improving macro fundamentals, foreign flows are expected to return to India,” Vora told Mint.
“To regain FII confidence and attract foreign capital back, a revival in corporate earnings coupled with clarity and certainty around favourable trade and tariff policies will be critical. As confidence builds around these factors, India’s valuation attractiveness versus peers will improve, encouraging FIIs to increase allocations,” Vora said.
According to ArunaGiri, the founder and CEO of TrustLine Holdings, if the payroll data continues to be weak in the coming weeks and months, the Fed could make more rate cuts this year. This would be hugely positive for FII flows into emerging markets, including India, as such cuts would put pressure on the dollar index.
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Disclaimer: This story is for educational purposes only. The views and recommendations expressed are those of individual analysts or broking firms, not Mint. We advise investors to consult with certified experts before making any investment decisions, as market conditions can change rapidly and circumstances may vary.
