While the Sensex and Nifty gained about 8-9% in rupee terms, a sharp depreciation in the currency eroded returns for foreign investors. The result: record foreign portfolio investor outflows of $18 billion, the highest ever from Dalal Street in a calendar year.
In contrast, global equities surged. South Korea’s KOSPI soared nearly 81%, Brazil’s Bovespa jumped about 48%, Germany’s DAX rose 38%, and the Stoxx Europe 600 climbed 32%. Even developed markets such as the S&P 500 and Nasdaq gained 17.4% and 21.6%, respectively. India, once the standout among emerging markets, found itself at the bottom of the league table.
The divergence reflects both global and domestic headwinds. Chinese and South Korean equities, particularly semiconductor and software stocks, rallied sharply on optimism around artificial intelligence and a broader re-rating from low valuation bases — themes largely absent in India.
“Nifty 50 and Sensex are one of the worst performing indices during CY25,” Sunny Agarwal of SBI Securities told ET Markets, citing a slowdown in earnings momentum, relatively expensive valuations, lack of a pure AI play, persistent supply of equity issuance, and geopolitical and trade-war uncertainties.
The valuation-growth mismatch has been especially punitive for foreign investors. According to Garima Kapoor of Elara Securities, foreign portfolio inflows into India are closely tied to nominal GDP growth, which has slowed materially since mid-2024.
“Since August 2024, FPIs have turned net negative, coinciding with slowing domestic growth amidst heightened global uncertainties,” Kapoor said. She added that over the past 15 years, India has attracted meaningful FPI flows at valuation premiums above 1.6 times MSCI Emerging Markets only once. With nominal GDP growth slipping below its 25-year average of 12%, that premium became harder to justify.
Trade policy shocks compounded the pressure. Elara estimates that US reciprocal and Section 232 tariffs pushed India’s effective tariff rate to about 33%, significantly higher than peers, worsening sentiment toward Indian assets.
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Is 2026 the Turning Point?
Despite the bruising year, market strategists see conditions aligning for a recovery in 2026.
Kapoor expects a turn in domestic growth dynamics, aided by supportive policy measures. Nominal GDP growth is forecast to recover to 10% in FY27 from around 8% in FY26, while valuations have become less stretched and the outlook for the US dollar remains benign.
India’s policy mix, she noted, has turned decisively growth-supportive. Income tax cuts, GST reductions, and accelerating public capital expenditure are beginning to feed into consumption, which accounts for nearly 55-60% of GDP. Early signs from the seasonally strong third quarter suggest households are spending again.
Trade risks may also ease. Elara expects progress on an India–US trade deal, potentially lowering India’s effective tariff rate sharply if recent reciprocal and Russia-related tariffs are rolled back.
Global monetary conditions are another tailwind. The US Federal Reserve has restarted its rate-cut cycle, pushing down bond yields and keeping the dollar range-bound. This, combined with benign domestic inflation, has created room for the Reserve Bank of India to cut rates by up to 50 basis points over the next two policy meetings in FY26.
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Earnings, the missing link in 2025, are also showing signs of revival. Elara expects 12.5% year-on-year profit growth this quarter, the first double-digit print in six quarters. Among the 179 companies under its coverage that have reported so far, profits are up 16% year-on-year, with nearly two beats for every miss.
Valuations are now more supportive as well. Nomura’s Saion Mukherjee expects Nifty to reach 29,300 by end-2026, implying a 12% return, based on 21 times forward earnings. While a surge in foreign inflows is unlikely, Mukherjee said flows could improve at the margin, especially if the global AI-driven rally moderates and India’s valuation premium remains in line with long-term averages.
Asset managers echo that cautious optimism. Franklin Templeton expects India’s earnings growth to recover to mid-teens in 2026, supported by fiscal and monetary tailwinds and easing tariff risks. Earnings revisions have stabilised since late 2025, with one-year forward estimates improving since September.
Domestic investors remain constructive but measured. Nilesh Shah, Managing Director of Kotak Mahindra AMC, said equity returns in FY26 are likely to be anchored in earnings growth, with India Inc expected to deliver double-digit growth in FY27. That, he said, should help attract foreign investors, even as expectations need to be moderated.
From a global allocation perspective, BofA Securities’ Amish Shah does not expect India to outperform emerging markets broadly, but sees relative strength versus the US. With Wall Street expected to deliver about 4% returns in dollar terms and India around 12% in rupee terms, any rupee appreciation in 2026 could tilt the balance decisively in India’s favour.
After a year that stripped India of its emerging-market halo, the debate heading into 2026 is about swift recovery. The ingredients may finally be falling into place. Whether they translate into sustained outperformance will determine if 2025 proves to be an aberration, or the start of a longer reset for Indian equities.
(Disclaimer: Recommendations, suggestions, views and opinions given by the experts are their own. These do not represent the views of The Economic Times)
