Fed Rate cut unlikely to trigger FII rush into India as earnings, valuations bite

US Federal Reserve cut rates by 25 basis points to 4-4.25 percent

The US Federal Reserve’s first rate cut of 2025 is widely expected to lift sentiment across emerging markets, but India continues to lag as foreign investors remain cautious on expensive valuations and muted earnings growth.

India may not see foreign inflows turn positive immediately even after the Federal Reserve’s 25-basis-point rate cut in September, its first of the year. The widely anticipated move signals the beginning of an easing cycle and typically boosts emerging-market sentiment, but analysts warn India is unlikely to be the first port of call for global investors.

“India’s high valuations, coupled with single-digit earnings growth, are keeping foreign investors underweight,” said market expert Ajay Bagga. “South Korea and China have emerged as the preferred destinations, thanks to robust earnings momentum and investor enthusiasm around technology and artificial intelligence plays. The Fed’s rate cuts may begin to shift sentiment by year-end, particularly if trade tariffs ease.”

Ambareesh Baliga, market veteran, was more optimistic about the medium term. “FIIs can’t ignore India for long, given its 6.5 percent GDP growth compared to 3.3 percent in the US and 4 percent in China,” he said. “Once tariff uncertainty clears, and with trade talks progressing, flows should return.”

Performance data highlights the divergence. The MSCI Emerging Markets index has climbed 25% in 2025, led by a 35% rally in MSCI China, while India has advanced only 5%. Foreign flows mirror the trend: China, Japan, and Taiwan have attracted the bulk of FII allocations, while India has seen $15.4 billion in outflows this year. By the end of July, 71% of large EM funds were underweight India, up from 60% a month earlier.

Earnings also lag peers. Elara Capital analysts noted that in dollar terms, Nifty EPS growth was just 4% year-on-year, placing India in the mid-to-bottom quartile globally. By comparison, South Korea delivered 45% EPS growth and Taiwan 20%.

“India is trading at a forward P/E of 19.4 times, higher than its long-term average of 17.1 times and far above the MSCI Emerging Markets average of 12.6 times. Even with one of the best return-on-equity numbers among peers, at 14.4 percent projected for 2026, the high valuations do not sit comfortably with the modest earnings growth,” Elara Capital said.

Alongside the valuation-earnings mismatch, uncertainty from US trade tariffs has weighed on sentiment and spurred rotation out of Indian equities.

While the Fed’s rate cut opens the door to potential inflows, analysts stressed that visible earnings momentum will be the real driver of allocations. As domestic growth triggers strengthen and global trade headwinds ease, India’s position in the FII playbook is expected to improve toward the end of the year.