After a challenging 2025, foreign portfolio investors (FPIs) are expected to return to Indian equities in 2026, spurred by easing conditions and promising market dynamics. However, a potential gap in exposure to Artificial Intelligence (AI) could pose a risk to this resurgence.
In 2025, FPIs witnessed record outflows, reaching USD 17.5 billion, or 0.3% of the market capitalization. These outflows were driven by factors such as weak earnings momentum, global risk aversion, and attractive opportunities in emerging markets heavily invested in AI. However, market strategists anticipate a reversal in 2026, citing several factors.
One key factor is the improved earnings visibility of Indian companies. Nifty earnings are projected to grow at a compound annual growth rate (CAGR) of around 16% between fiscal years 2026 and 2028, a significant increase compared to the roughly 7% growth observed in the preceding two years. This earnings acceleration is expected to lure back foreign investors seeking higher returns.
Furthermore, India's macroeconomic environment remains supportive. Real GDP growth is projected to remain robust at around 7.5%, while inflation is expected to stay benign. A stable current account deficit further strengthens the country's economic outlook, making it an attractive destination for foreign investment.
Valuations in the Indian equity market are also becoming more reasonable compared to other emerging and developed markets. This provides an additional incentive for FPIs to increase their exposure to Indian equities. Improving India-US trade relations could further boost FPI sentiment. Stability in the currency is also critical to draw hedge funds and global performance-seeking investors back into Indian equities.
Despite these positive factors, a potential risk remains: the relatively low exposure of Indian equities to the AI sector. The preference for AI-heavy emerging markets may persist in 2026, potentially hindering the full-scale return of FPIs to India.
Even with FPI outflows, domestic institutional investors (DIIs) supported the market. Mutual fund equity inflows are expected to remain steady, driven by systematic investment plans (SIPs), Employees' Provident Fund Organisation (EPFO) flows, and National Pension System (NPS) flows. Low domestic equity ownership and a superior equity return profile compared to other asset classes further bolster domestic investment. DIIs, backed by more retail investors through plans like SIPs, will help keep markets stable.
In early January 2026, however, FPIs continued to be net sellers of Indian equities for the eighth consecutive session, offloading stocks worth ₹3,268.60 crore. Domestic institutional investors, in contrast, began the year positively, absorbing equities worth ₹1,525.89 crore.
Overall, the Indian equity market presents a mixed picture for 2026. While the potential return of foreign investors and strong domestic flows offer encouraging signs, the AI exposure gap remains a key challenge. Success in attracting sustained FPI interest will likely depend on India's ability to demonstrate its participation and potential gains in the rapidly evolving AI landscape.
