For FPIs to return to net buying Indian stocks, we need to sustain our current pace of economic and earnings growth | Photo Credit: desifoto
As the stock market struggles to recover from a two-year slump, there’s a rising clamour for the removal of long-term capital gains (LTCG) on equities to woo back foreign portfolio investors (FPIs). Market participants argue that India is among the few markets to tax foreign equity investments at a time when there’s pervasive pessimism about India’s markets in the global investing community. They say that if FPI outflows are left unaddressed, rupee weakness can spiral and domestic confidence can collapse.
All these arguments are true to an extent. However, it is moot if doing away with LTCG tax will bring foreign investors back. Historical patterns don’t suggest a strong correlation between LTCG tax and FPI purchases of stocks. After India introduced LTCG in early 2018, FPIs net sold stocks in FY19 and FY20. In FY21, without any change in taxation, they were back with record purchases of $37 billion. After two years of selling again, they poured $25 billion into stocks in FY24. Thereafter, we’ve seen consistent net sales of $15 billion, $20 billion and $17 billion in FY25, FY26 and FY27 respectively. The current spell of FPI selling in fact seems to have started with profit-booking. Between 2020 and 2024, the Indian economy charted a quick rebound from Covid and Nifty 50 companies expanded their earnings at a blistering annual pace of 32 per cent. The Nifty 50 matched this with a 30 per cent annual return. By September 2024, this led to Indian markets trading at a steep valuation premium over global markets, at 26 times. As growth took a breather, FPIs probably saw the wisdom of taking some money off the table through 2025.
In early 2026, though India’s growth revived, the Iran war broke out, fuelling worries about energy dependence and the trade balance. The rupee lost significant ground. Meanwhile in other markets, technology and chip companies began to deliver blockbuster earnings growth from the trillion-dollar splurge on AI capex. FPIs (especially of the short-term variety) took to chasing high-return markets such as the US, Japan, Taiwan and South Korea, abandoning India which had little part to play in AI capex.
