AI frenzy peaks! After a yr of outflows, FPIs poised to re-enter India

After nearly a year of foreign portfolio investor (FPI) outflows, India may be on the brink of a decisive turnaround. New research by Elara Capital, which tracks 15 years of FPI behaviour shows that foreign inflows follow one dominant signal above all else: nominal GDP growth. And that growth, analysts say, is finally set to recover by FY27–28, triggering a potential comeback in FPI flows as early as Q1 2026.

 

Why FPIs left — and why it was not about AI alone

 

FPIs have been net sellers since August 2024, a period marked by slowing domestic growth, global uncertainty, and rising risk aversion. While the market narrative focused on India’s “lack of pure-play AI stocks” and geopolitical concerns, long-term data tells a more structural story:

 

"India’s nominal growth premium over peers eroded, denting FPI appeal amid stiff valuations India’s historical attractiveness stemmed from superior growth versus EM peers, but this edge has narrowed down sharply. The growth premium over a basket of eight peer countries (South Africa, Indonesia, Thailand, The Philippines, Vietnam, China, Russia and Brazil) fell to 2.4% in 2024-25 from a 2.9% average in 2010-19, while the P/E premium rose to ~2x from 1.45x, flipping the risk-reward balance. Subdued public capex during election years and tighter financial conditions stifled India’s domestic nominal growth," said Elara Capital in a note

 

Nominal GDP cycles have aligned closely with every FPI peak-to-trough cycle since 2010.

 

Weak DXY or US rate cuts helped India only when nominal growth was strong and/or India traded at <1.6x P/E versus EM peers.

 

In the past 15 years, India has attracted large FPI inflows at valuations above 1.6x just once.

 

When nominal growth dips below the 25-year average of 12%, inflows revive only if relative P/E falls under that 1.6x threshold.

 

India’s growth premium has narrowed — and valuations surged

 

For years, India’s biggest advantage was its growth premium over other emerging markets. That gap has narrowed sharply:

 

The premium over peers (South Africa, Indonesia, Thailand, Philippines, Vietnam, China, Russia, Brazil) has dropped from a 2.9% average (2010–19) to 2.4% in FY25.

 

Meanwhile, India’s P/E premium has risen from 1.45x to about 2x.

 

Subdued public capex during the election cycle and tighter financial conditions dragged down domestic nominal growth.

 

US tariffs—effectively around 33% for India—further dented sentiment, dragging FY26 GDP projections briefly to 6–6.2%.

 

However, the tide now appears to be turning. With GST rate cuts, the RBI’s pro-growth stance, and a mild rise in inflation, analysts expect nominal GDP growth to climb from ~8% in FY26E to 10–10.5% in FY27–28E.

 

Tailwinds Lining Up for FPI Inflows by Q1 2026

 

• A cluster of macro triggers is building a strong case for an FPI revival:
• Income tax and GST cuts lifting private consumption, which accounts for 55–60% of GDP.
• Pick-up in public capex after the election-related slowdown.
• A potential US–India trade deal by end-2025 that may reduce effective tariffs from 32–33% to 9–10%.
• Fed rate cuts, pulling down US yields and the USD Index (DXY is already down 8–9% CYTD).
• Benign inflation giving the RBI room for 50 bps rate cuts in FY26.
• Earnings growth bottoming out, setting the stage for a cycle turn.
• Together, these could restore India’s relative attractiveness and push FPIs back into domestic equities.

 

Financials: The Sector Most Likely to Lead the Comeback

 

History leaves little ambiguity: Every FPI flow cycle since 2010 has been led by financials, EPFR data shows. Financial inflows peaked at $4.5 billion in July 2024, with the sector capturing a massive 47% share. The same pattern was seen in the 2019 upcycle. Remarkably, financials have posted positive inflows even during two broad-market drawdowns.

 

With the RBI easing regulations and expanding business opportunities for banks, along with stronger credit demand, GST cuts, tax rebates, and cooling inflation, the sector is once again the most attractively positioned to attract sizeable foreign inflows.

 

For wealth investors, this suggests large banks, diversified financials, and lending-heavy NBFCs could be early beneficiaries of the next FPI wave.

 

The AI Overhang: Why India Has Suffered, And Why That May Change

 

Global equity flows have become unusually concentrated in the US and AI-related stocks:

 

The US captured 88.6% of peak flows in November 2024 across major DM/EM markets—far above the historical average of 23%.

 

Among EMs, China took 60.9% of flows in CY25.  Global fund flows are now heavily skewed toward the AI trade, creating an imbalance that investors must watch closely. EPFR data across major markets over 15 years shows that broad-based EM participation seen in 2013 and 2018 has given way to hyper-concentrated, tech-driven cycles since 2020. The US has emerged as the biggest magnet, drawing an unprecedented 88.6% of global equity inflows in November 2024—far above its long-term peak average of 23%. Among EMs, China has claimed 60.9% of flows in CY25 versus its historical 43.9%, while Taiwan—powered almost entirely by AI-linked manufacturing—has risen to 15%, up from its 12.4% average. India, however, has been squeezed out of this AI-dominated cycle, with its share falling to just 0.4% versus the usual 6.3% seen at past peaks.  

IT sector flows globally hit an all-time high of 36.2% share in August 2025.

  At a sector level, concentration is even starker: global IT (including AI) captured a record 36.2% of peak flows in August 2025, pushing sector concentration to its highest level on record. For investors, this means two things: (1) India is currently under-owned not because of fundamentals but because capital is chasing AI-heavy markets, and (2) whenever the AI trade cools, even with a mild 10–20% valuation unwind, rotation into lagging sectors such as financials—and lagging markets like India—could be sharp. While a full-scale AI reversal is not imminent, the setup favours long-term investors who position early for the eventual rebalance rather than chasing stretched AI valuations today.

 

India, dominated by financials, consumers, and infrastructure—and lacking pure-play AI giants—has been structurally under-owned during this AI-driven rally.

 

However, analysts at Elara Capital believe that when the AI surge eventually normalises, global portfolios will rotate toward undervalued or underweighted sectors and markets. With nominal GDP bottoming out and small- and mid-cap companies typically responding faster to nominal growth, India stands to benefit meaningfully when the rotation begins.

 

"An eventual AI unwind (which we think is some time away) could trigger rotation into underweight sectors such as Indian Financials. With nominal GDP bottoming and SMID caps showing stronger correlation to nominal growth recovery, India is well-positioned to benefit from sector rotation once global AI momentum cools," said Garima Kapoor, economist at Elara Capital.

 

For now, the data is clear: Nominal growth drives FPI flows, and nominal growth in India is finally turning up.

With macro tailwinds strengthening into 2025, the stage is set for a potential FPI comeback by Q1 2026—led, once again, by financials.

 

For long-term investors, this may be the moment to position portfolios ahead of global capital returning to India.