The Indian stock market has experienced a significant correction over the past six months, with the Nifty50 plummeting from 25,200 levels to around 22,500 levels by the end of February 2025. This decline of approximately 11% can be attributed to several factors, including concerns over the valuation of small and midcap stocks, liquidity flows, and global economic developments.
Budget and Economic Stimulus
The FY 2025-26 budget introduced several measures to boost consumption and growth, such as increasing the income tax exemption limit, enhancing MSME support, and investing in infrastructure and agriculture. Despite these efforts, market sentiment remains cautious due to broader economic challenges.
Key Factors Influencing Market Sentiment
1. Change in US Interest Rates MovementÂ
The U.S. Federal Reserve’s easing cycle, which began with a 50 basis point cut, has impacted global liquidity. By the end of 2024, the federal funds rate was reduced to a range of 4.25% to 4.5%, intensifying competition for capital and leading to significant outflows from emerging markets like India. This easing cycle is aimed at stimulating economic growth in the U.S., but it has had a ripple effect on global markets.
The slow down in the expectation reduction in interest rates has made U.S. assets less attractive compared to emerging markets, which typically offer higher returns. However, the ongoing economic uncertainty and the search for safer havens have led investors to seek better returns elsewhere, contributing to outflows from India.
2. FII Flows
The impact of these rate changes on capital flows has been substantial. India witnessed significant FII outflows as investors sought better returns elsewhere. The total outflows since September 2024 have been approximately ₹2.26 lakh crore.
| Month | FII Outflows (in Rs crore) | Total Outflows (in Rs crore) |
| Oct 2024 | ₹94,000 crore | ₹94,000 crore |
| Nov 2024 | ₹19,994 crore | ₹1,13,994 crore |
| Jan 2025 | ₹81,903 crore | ₹1,95,897 crore |
| Feb 2025 | ₹30,588 crore (till Feb 21) | ₹2,26,485 crore |
These outflows have been driven by a combination of factors, including the U.S. interest rate changes and the attractiveness of other emerging markets like China.
3. China Valuations and Capital Flows
China has benefited from increased capital inflows due to its economic recovery and attractive valuations. Innovations like Deep Seek have further accentuated this trend, leading to higher allocations in China at the expense of India. The emergence of new technologies and economic reforms in China has made it an attractive destination for investors seeking growth opportunities.
Moreover, China’s efforts to open its financial markets and improve regulatory frameworks have enhanced investor confidence. This shift in investor preference has resulted in significant capital outflows from India, impacting the market negatively.
4. GDP and Earnings Growth
India’s real GDP growth slowed to 5.4% by the end of Q2, marking a seven-quarter low. This slowdown was primarily due to slower industrial and export growth. Corporate earnings have also been modest, with a 6.8% year-over-year (YoY) revenue growth in Q3 FY25 compared to Q3 FY24. However, when seen in the context of Q3 FY25 vs. Q2 FY24, revenue growth was modest at 3.5% in Q3 FY25, indicating a slower pace.
The concern over earnings not growing fast enough to justify valuations has been another trigger for market corrections. Investors are closely watching earnings reports to gauge the health of corporate India and make informed investment decisions.
5. Trump Tariff Threats
Uncertainty in the market has been exacerbated by Trump’s tariff threats, which could impact sectors like textiles and pharmaceuticals. These tariffs may reduce India’s GDP growth and exports to the U.S., contributing to negative market sentiment. The potential impact of these tariffs on Indian exports could lead to a slowdown, affecting sectors that are heavily reliant on U.S. markets.
According to the State Bank of India, Indian exports to the U.S. might decline by 3 to 3.5% due to the tariffs. This could have a cascading effect on related industries and overall economic growth. More importantly the tariff threats mean reduced exports and increased imports leading to a depreciating rupee which in tun makes returns for FIIs less attractive in dollar terms.
Market Outlook and Future Prospects
Despite these challenges, long-term growth prospects remain positive. The Indian economy is likely to adapt to tariff changes by focusing on local manufacturing, supported by initiatives like the PLI scheme and Make-in-India. Historically, FII flows have not significantly impacted the market’s long-term performance, with the Nifty posting double-digit growth over 2-3 year periods despite outflows.
The emphasis on domestic manufacturing and self-reliance could lead to increased investment in sectors like electronics, automotive, and pharmaceuticals. This shift could also help reduce India’s trade deficit with countries like China, fostering a more balanced trade environment.
Conclusion
The Indian stock market faces short-term challenges due to global economic factors and liquidity issues. However, the long-term outlook remains optimistic, driven by domestic economic reforms and growth initiatives. Investors should focus on quality stocks with strong fundamentals, particularly in sectors that are less affected by global volatility.