For years, India was the emerging market that global investors worried about not owning. Now it has become the one they seem quite comfortable doing without. IIn Bank of America’s (BofA) latest Asia Fund Manager Survey, India has replaced Indonesia as the least-preferred Asian stock market. The survey identified the absence of a clear artificial intelligence (AI) opportunity as the biggest concern, followed by weak growth, high valuations and insufficient reform. Newspaper editorials are amplifying the alarm, urging policy-makers to read the warning signs. But the underlying reality is far less alarming than the headlines suggest.
For much of the past decade, the Indian investment proposition was almost self-evident. Here was the world’s fastest-growing large economy, with a vast population, rising incomes, a modern banking system, a digital economy and a government willing to spend heavily on infrastructure. China had become difficult for geopolitical and regulatory reasons; many other emerging markets were either too small or too dependent on commodities. India seemed to offer the rare combination of scale, growth and relative stability. Indian equities consequently acquired a valuation premium over most emerging markets because investors were buying the promise of tomorrow’s India. The obvious question, therefore, is whether that promise has disappeared.
Quite the opposite. The promise has arguably never been brighter in the 35 years since foreign investors were first allowed into India. The catch is that much of it is visible in a part of the market that FPIs (foreign portfolio investors) have largely ignored: smaller companies. India is witnessing an extraordinary rise in entrepreneurship across sectors with powerful and potentially durable growth-drivers. Pharmaceuticals, engineering, capital goods, services, defence and power infrastructure are among the most important. The business and stock-market performance of companies in these industries has gladdened the hearts and fattened the purses of investors who spotted the opportunity early and flocked to them. Among those investors are the domestic counterparts of FPIs: India’s mutual funds. The numbers tell the story rather better than a fund-manager survey does.
In October 2024, FPI flows turned sharply negative, with an equity outflow of ₹94,017 crore in a single month. Between October 2024 and June 2026, more than US$50bn (billion), or roughly ₹4.5 lakh crore, was withdrawn by foreign investors from Indian equities. Yet, between October 2024 and July 2026, roughly ₹6.31 lakh crore entered mutual funds through systematic investment plans (SIPs). The contrast was particularly striking in March 2026, when FPIs sold about ₹1.18 lakh crore, as markets were battered by the US-Israel attack on Iran, while mutual funds bought about ₹98,746 crore. Even in July 2026, SIPs brought in ₹31,961 crore, almost an all-time high.
Now follow this money a little further and the picture becomes more revealing. In July 2026, actively managed equity mutual funds received about ₹24,697 crore of net inflows. Of this, only ₹1,322 crore went into large-cap funds. Small- and mid-cap funds alone accounted for ₹13,960 crore, or about 56.5% of total equity mutual-fund inflows in July. These are precisely the companies mentioned earlier, many of which are enjoying an extraordinary boom in business and, consequently, in their stock prices.
Another ₹3,425 crore went into large- and mid-cap funds. The rest went into flexi-cap and multi-cap funds, which, although not confined to smaller companies, would also deploy a portion of their money in mid- and small-caps. Then there are portfolio management services, or PMS, where assets under management (AUMs) have risen from around ₹24 lakh crore to ₹44 lakh crore. PMS portfolios are far more willing than conventional foreign portfolios to venture down the market-cap spectrum.
The conclusion is difficult to miss. Domestic investors are not merely matching the selling by FPIs; they are directing a large proportion of their incremental money towards precisely the part of the market where foreign investors are less active. Almost 70%-80% of incremental mutual fund investment is, in one form or another, finding its way towards small- and mid-cap companies, either directly or through diversified funds that can invest in them.
The distribution of foreign money is strikingly different. According to a December 2025 analysis, 76% of FPI investments were concentrated in the top-100 companies, although this had fallen from 83% in December 2022. Their exposure to companies ranked 251-500 had barely moved, from 5% to 6%. The distinction matters. Since March 2023, the Nifty Smallcap 250 index has doubled and the Nifty Microcap index has risen by 150%. Meanwhile, with 31% of their portfolios invested in financial stocks and another 8% each in software and oil & gas, FPIs have been left staring at relatively poor to average returns. Now we know why they are sore.
The No-AI ‘Problem’
The biggest reason to ignore the FPI gripe is perhaps the strangest one: India’s listed stock market has little exposure to the current mania in artificial intelligence or AI. The great investment boom of the moment is increasingly being expressed through semiconductors, computing power, networking equipment, data centres and hyperscale cloud infrastructure. Taiwan and South Korea, among countries outside America and China, offer investors the clearest listed exposure to this bonanza. India does not. This is hardly a reason for a policy-maker to lose sleep.
It would be rather like shunning a stock market in 1999 because it did not have loss-making internet companies listed on its stock exchange, or in 2007 because it did not have financial stocks minting money from toxic subprime mortgages. We know how both investment fashions ended. There is also another possibility which the current AI euphoria tends to obscure. If the hardware boom eventually buckles under the weight of debt-fuelled, manic investment, the economic value of AI will not disappear with the share prices of its current beneficiaries. The technology will remain. Someone will have to build applications, integrate systems and help companies use AI to increase productivity. It may turn out that Indian software engineers, rather than semiconductor manufacturers, are among the enduring beneficiaries.
For these and a variety of other reasons, India should ignore the BofA survey. It should not, however, ignore surveys of business managers. India needs almost US$100bn of net foreign direct investment a year, much of it in manufacturing. Such investment would bring technology, build skills, create jobs and, most importantly, convert India’s enormous domestic scale into internationally competitive production lines. On this front, India is not making nearly as serious an attempt as it should.
India, therefore, needs to worry less about whether a fund manager in Singapore prefers Taiwan to Mumbai and more about whether a manufacturer in Germany, Japan, Korea or America prefers India to Vietnam, Mexico or China. The first is a matter of market sentiment which is fickle. The second is a matter of economic transformation which is durable.
If India can attract US$100bn of net FDI a year, particularly into manufacturing and other productive sectors, it would be a game-changer in almost every conceivable way. It would deepen supply chains, raise productivity, generate employment, expand exports and create precisely the sort of companies that global investors eventually cannot afford to ignore. And then the FPIs would probably come rushing back. AI or no AI.
(This article first appeared in Business Standard newspaper)
The note about FPI is ignoring the key issue that our stocks are over valued. CEO of whirlpool said that while parent co. PE is 18, Indian subsidiary is value at 50. So he cashed out. That is the main reason for the outflow and not lack of AI. The reason for over valuation is also clear, too many mutual funds chasing the same stock and propping up the valuation without any rationale. Kotak securities had pointed out earlier absurd valuations of BHEL. It is only matter of time the valuations will come down to sensible levels, but who will be loser?
FPI (read FII) money has always been a fickle minded money. It is for good that our DII (read MF-largely) have emerged as a very strong counter to what FPI used to play. It is good for India. No worry on this.
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