When the Singapore-based multi-family office Red Capital Partners decided to trim its equity exposure roughly a month ago, it chose to completely exit its India portfolio. Chief Investment Officer Gerald Gan said it was an easy decision to make. "India doesn't have many compelling investment stories left, and its growth narrative is steadily losing its luster."

Gan's view reflects a growing skepticism among a segment of global fund managers toward Indian equities. They argue that India lacks a meaningful AI-related investment theme, and corporate earnings have been lackluster, prompting them to reduce holdings or fully withdraw from the $5.1 trillion stock market. As a result, foreign ownership of companies listed on the National Stock Exchange of India has fallen to a 17-year low. This capital exodus marks a dramatic reversal, as India was until recently one of the world's most favored investment destinations.

A latest Bank of America investor survey shows India is now the least favored market in Asia. Fund managers at Janus Henderson Investors and Fidelity International say they have already cut their India positions to zero over the past year or so. A few years ago, India's world-leading economic growth rate and the infrastructure push under Prime Minister Narendra Modi's government were core attractions, but that shine has now dimmed compared with the returns delivered by AI-driven sectors in Taiwan and South Korea.

Indian equities trade at a forward price-to-earnings ratio of roughly 17.6 times, slightly below their historical average, yet valuations remain far richer than other emerging markets. The Nifty 50 index still commands a 77% premium over the MSCI Emerging Markets benchmark, which has driven roughly $25 billion in net outflows this year as capital rotates elsewhere. This leaves the Nifty 50 hovering near levels last seen in mid-2024. The index is now on track to snap a decade-long annual winning streak, a bull run that only the Nikkei 225 in 1980s Japan can rival among major global equity markets.

Gary Dugan, CEO of the Dubai-based Global Chief Investment Office, noted that "many wealth managers are underweighting or completely clearing out their India positions because they need to raise exposure to Taiwanese and Korean tech sectors. With headwinds like elevated oil prices and a weakening local currency, they believe not being in India poses no risk of missing out." Dugan added that about 30% of his firm's clients, including family offices and wealth managers, have fully withdrawn from the Indian market.

Domestic institutions, however, are providing support. Data from the Bombay Stock Exchange shows local institutions have net bought about $60 billion in stocks this year. This domestic buying has made Indian small-caps a bright spot, with shares of companies benefiting from Indian data center construction gaining strength. Morgan Stanley believes India is entering a multi-quarter growth upcycle, and with valuations providing support, market performance could improve in the coming months. The brokerage's base case forecast sees the BSE Sensex rising 19% to 89,000 points by June next year, with a bull case scenario reaching 100,000 points.

But investors are now more selective. The National Stock Exchange of India, a bellwether of the country's financialization wave, was forced this week to scale back its long-planned IPO size amid investor skepticism over valuations.

The real challenge is that despite more than 12 years of Modi's rule, India's status as the world's fastest-growing major economy has struggled to translate into foreign investor appeal. The structural bull case built on its vast consumer and services market now faces two major headwinds: the absence of a substantive AI track, and heavy dependence on crude oil imports. India needs foreign capital more than ever, especially more stable foreign direct investment, to support Modi's manufacturing ambitions and offset the volatility of portfolio flows.

Fund managers say the Indian government needs to do more to re-attract overseas investors. Sat Duhra, portfolio manager at Janus Henderson Investors, said: "Since Modi came to power, he has indeed delivered several positive measures within a reasonable timeframe, such as the Goods and Services Tax reform, real estate reforms, and the bankruptcy court system. But these haven't addressed the real core issues: job creation, manufacturing development, and attracting foreign direct investment."

The vulnerability of Indian assets to oil price swings was highlighted after the US-Iran conflict erupted. While the stock market fell, the Indian rupee slid to a record low. Despite India raising $127 billion from overseas diaspora to shore up the currency, the rupee remains one of Asia's worst-performing currencies this year. Carlos Casanova, senior Asia economist at Swiss-based Partners Group, said: "This puts pressure on the current account and weakens the rupee. Currency depreciation further raises foreign investor concerns, erodes dollar-denominated returns, marginally tightens domestic financial conditions, and raises doubts about the sustainability of corporate margins."

Complicating matters, India's weight in emerging market indices is declining due to its underperformance relative to North Asia's AI theme markets. Bloomberg-compiled data shows India's current weight in the MSCI Emerging Markets Index stands at roughly 11%, down from 16% a year ago. Dugan said: "India's relative underperformance lowers its index weight, giving benchmark-tracking fund managers even less reason to hold Indian stocks, which in turn intensifies selling pressure. This also reflects the current market theme: the core narrative in emerging markets right now is technology, and capital is flowing toward the tech track."