Why Strong US Growth Is Making a Foreign Investor Comeback to India More Difficult
India’s equity markets were hoping for a reversal in foreign investor sentiment as 2025 draws to a close. Instead, a surprisingly strong US economic performance has tilted the global capital equation once again in favour of American assets, complicating the return of foreign portfolio investors (FPIs) to Indian stocks and bonds.
The US economy expanded at an annualised pace of 4.3 percent in the third quarter of 2025, its fastest growth in nearly two years. Consumer spending remained resilient, government expenditure stayed supportive, and exports exceeded expectations. Wall Street welcomed the data, but for emerging markets like India, the implications are less encouraging.
Strong US Growth Pushes Rate-Cut Expectations Further Away
In financial markets, strong growth often comes with a trade-off. While economic momentum is positive, it reduces the urgency for central banks to ease monetary policy.
The robust GDP data has made it harder for the US Federal Reserve to accelerate interest-rate cuts. Inflation has moderated but remains sticky, while the labour market continues to show strength. As a result, bond markets are signalling caution rather than optimism.
The two-year US Treasury yield, which closely tracks expectations of Fed policy, has remained elevated above 3.5 percent even after the GDP release.
Despite political messaging from President Donald Trump, who has reiterated his preference for lower borrowing costs, markets are unconvinced.
“With growth this strong and jobs still plentiful, it’s difficult to build a case for rapid rate cuts,” a bond market strategist said.
For India, this means global liquidity conditions are unlikely to ease meaningfully in the near term, keeping foreign capital cautious.
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Dollar Returns Look Attractive, Emerging Markets Less So
When US assets offer attractive returns with relatively low volatility, global investors are less inclined to take on emerging market risk.
The message from US Treasuries to global investors is clear:
why chase higher risk when dollar assets are delivering comfort and yield?
This shift has direct consequences for India, which depends on foreign flows to supplement domestic capital, particularly during phases of market consolidation.
Rupee Weakness Adds Another Layer of Concern
India’s challenge is compounded by currency volatility. The rupee recently touched a record low of ₹91.07 against the US dollar, marking one of its weakest phases in years. Although it has since recovered modestly, the currency remains fragile.
While exporters and policymakers may see a weaker rupee as supportive for competitiveness—especially amid uncertainty over an India–US trade deal—foreign investors view it differently.
Currency depreciation:
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Reduces dollar-denominated returns
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Raises hedging costs
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Increases uncertainty around exit valuations
Forward premiums have climbed to multi-year highs, indicating that markets expect continued volatility despite the Reserve Bank of India’s stabilisation efforts.
“For global funds, currency risk is often the final deterrent,” a currency strategist noted.
Trade Resilience Offers Comfort, But Not a Catalyst
There are positives on the trade front. India’s exports are gradually diversifying, and the trade deficit has narrowed faster than anticipated. These developments have helped stabilise macroeconomic perceptions.
However, trade strength alone is rarely enough to draw equity flows.
Indian equities have been among the weaker-performing major global markets in 2025, while the rupee has also underperformed Asian peers. Although valuation metrics like the real effective exchange rate (REER) suggest the rupee may be undervalued, investors typically respond to momentum, not theoretical fairness.
Without a clear narrative shift—particularly on trade relations and earnings growth—foreign investors remain hesitant.
AI Trade Strength Keeps Global Capital Anchored Elsewhere
Another factor working against India is the resilience of the global artificial intelligence trade. Earlier fears of an AI-driven market bubble have eased, with only mild corrections in Big Tech stocks.
Strong earnings from global technology leaders have kept investors comfortable maintaining exposure to US equities, limiting the rotation of capital into markets like India.
This dynamic reinforces India’s current positioning as an “anti-AI trade” in global portfolios—a label that does little to attract incremental flows.
Foreign Flow Data Reflects Persistent Caution
The numbers underline the narrative. Foreign portfolio investors have sold approximately ₹1.6 lakh crore worth of Indian equities in 2025, marking the highest annual outflow on record.
Even expectations of sizeable bond inflows following India’s inclusion in global bond indices have faded, underscoring how sensitive flows remain to global macro conditions rather than domestic fundamentals alone.
Domestic Investors Are Supporting Markets—For Now
So far, domestic institutional and retail investors have cushioned the impact of foreign selling. However, signs of fatigue are emerging:
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Retail participation is easing
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Market breadth has narrowed
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Trading volumes have softened
This is why foreign capital still matters. A sustained return of FPIs could provide depth and resilience to markets that currently feel range-bound.
What Could Bring Foreign Investors Back to India?
Fund managers point to a familiar checklist for a revival in sentiment:
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Clear evidence of sustained global rate cuts
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Broader-based earnings growth in India
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A steadier rupee with lower volatility
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More attractive valuations to offset global uncertainty
For now, none of these factors have aligned decisively.
As one portfolio manager summed it up:
“No one is writing a big India allocation cheque today—but market narratives can change faster than expected.”
For Indian markets, the challenge is to navigate this period of global strength elsewhere while laying the groundwork for the next turn in the cycle.
