The ₹1.4 Lakh Crore Reversal: Are FIIs Ready to Reignite India’s Equity Rally?

After a staggering ₹1.4 lakh crore sell-off by foreign institutional investors (FIIs) in 2025, India’s equity markets stand at a pivotal juncture. With the US Federal Reserve initiating rate cuts and India’s macroeconomic fundamentals showing resilience, global capital may be gearing up for a strategic re-entry. This blog explores whether FIIs are truly done betting against benchmark indices like Sensex and Nifty, or if the recent outflows were merely tactical reallocations.

Key Factors that Triggered Exodus

Here are some of the factors that triggered the exit of FIIs:

• Muted Earnings
  

India’s corporate earnings have underwhelmed across four consecutive quarters, with Nifty 50 earnings growth slowing to just 4% YoY in Q1FY26, down from 25% annualised growth seen in FY24. Sectors like Information Technology (IT) and financials bore the brunt—FIIs pulled ₹11,285 crore from IT and ₹23,288 crore from financial services in August alone. Weak topline growth, margin compression due to input cost inflation, and subdued consumer demand have eroded investor confidence. The Nifty fell 3% over the past year, underperforming global peers like Korea (+41%) and Brazil (+21%). This persistent earnings drag has made Indian equities less attractive for global allocators.

• High Valuations

India’s valuation premium remains a major deterrent. As of September 2025, the Nifty trades at 22.7x forward PE, while China (10.9x), Hong Kong (7.5x), and Indonesia (11.2x) offer significantly cheaper entry points. This valuation gap has triggered a “Sell India, Buy China” rotation, with China attracting $4.3 billion in inflows in July vs India’s $2.7 billion. Over 71% of Emerging Market funds are now underweight India. FIIs sold ₹35,000 crore worth of Indian equities in August, marking the sharpest monthly outflow of 2025. The premium pricing without commensurate earnings growth has led to aggressive rebalancing away from India.

• Populist Fiscal Measures

India’s fiscal stance has turned populist ahead of the 2026 general elections. The Budget 2025 prioritised direct tax cuts and welfare spending over infrastructure capex, which saw a 12% YoY decline in Q2FY26. This shift has raised concerns about long-term growth sustainability. FIIs view the dilution of fiscal discipline and reduced capital formation as red flags. The ₹78,000 crore sell-off in January and ₹27,141 crore in February 2025 reflect growing unease. With capex momentum slowing and fiscal risks rising, foreign investors are reassessing India’s medium-term growth trajectory and reallocating to more policy-stable markets.

The Possible Reversal

A combination of global and domestic factors drives FII reversal. On the global front, the US Federal Reserve adopted a dovish stance, cutting rates by 25 basis points in Q2 and signalling two more reductions by year-end. This not only weakened the dollar but may prompt capital to rotate toward high-yielding emerging markets, such as India.

Domestically, the Reserve Bank of India supported this momentum through a 150 bps easing cycle over FY25, lowering the repo rate to 4.75% and enhancing liquidity while reducing the cost of capital. Complementing monetary measures, fiscal reforms strengthened the investment climate: Goods and Services Tax (GST) rationalisation lowered peak rates from 28% to 18% on select manufacturing inputs, and amendments in income tax slabs under the new regime increased disposable incomes and improved corporate margins.

India’s macroeconomic resilience further reinforced investor confidence. Gross Domestic Product (GDP) growth remained solid at 6.5–6.7% despite global uncertainties, while headline Consumer Price Index (CPI) inflation moderated to approximately 2.1% by August 2025, supported by stable food and fuel prices. These fundamentals, together with projected earnings recovery from Q3FY26, repositioned India as a compelling growth story.

Domestic Institutional Investors (DIIs) absorbed earlier sell-offs, providing valuation support, while FIIs recalibrated their exposure amid stretched valuations in developed markets.

Sectoral Winners & Earnings Outlook

India’s medium-term sectoral outlook remains resilient, with analysts anticipating a broad-based earnings recovery from Q3FY26 onward, led by Banking, Financial Services, and Insurance (BFSI), IT, metals, and consumption. The BFSI sector is poised to benefit from credit growth approaching 14% YoY, supported by easing liquidity and improving net interest margins as inflation moderates. In IT services, despite headwinds from H-1B visa fee hikes and tariff risks, revenue growth is expected to rebound to 7–9% YoY, driven by normalisation in global tech spending and renewed demand from BFSI clients.

Metals are set to gain from China’s infrastructure stimulus and rising global commodity prices, while GST cuts, rural recovery, and festive demand will buoy consumption. The “double engine” thesis, global liquidity easing post-peak US dollar index (DXY) and strong domestic fundamentals, underpins this optimism.

FII Exodus: Risks & Timing

Despite improving macros, risks remain:

• The US’s 50% tariff on Indian exports, especially textiles and gems, could shave off 0.5–0.9% from GDP. Negotiations remain unresolved.
  
• With general elections due in mid-2026, policy continuity and fiscal discipline are under watch.
  
• A resurgence in US inflation or geopolitical escalations could derail risk-on sentiment.
  

Given these dynamics, most analysts expect FIIs to re-enter meaningfully in H2FY26, post-election clarity and Q3 earnings confirmation. Until then, India may remain a tactical overweight rather than a strategic core.

Conclusion

Foreign Institutional Investors (FIIs) pulled out ₹1.4 lakh crore in 2025, citing muted earnings, stretched valuations, and populist fiscal policies. Yet, improving macro conditions, such as 6.5–6.7% GDP growth, inflation easing to 2.1%, and the RBI’s 150 bps rate cuts, are shifting sentiment. With the US Fed turning dovish, capital is likely to shift towards high-yielding emerging markets, such as India. Analysts expect a broad earnings recovery from Q3FY26, led by BFSI, IT, metals, and consumption. However, tariff headwinds, fiscal populism, and election uncertainty pose risks. Traders should brace for volatility, but medium-term investors can position for re-entry, with FIIs expected to scale exposure meaningfully in H2FY26.

Read more:

FII trends 2025: How global giants are betting on India

Sources

Financial Express
The New Indian Express
The Economic Times
Mint
India Brand Equity Foundation Market Brew
Trade Brains