India-US Trade Breakthrough: Catalysts and Outlook for FII Return to Indian Equities

The India-US bilateral trade agreement announced on February 3, 2026, represents a significant breakthrough following a prolonged period of uncertainty that had substantially weighed on foreign investor sentiment toward Indian equities [1]. The deal, concluded between US President Donald Trump and Indian Prime Minister Narendra Modi, eliminates the punitive 50% reciprocal tariff that had been a primary concern for market participants, reducing it to a more manageable 18% level [1][2]. India has simultaneously committed to lowering tariffs and non-tariff barriers on US imports to zero, signaling a comprehensive bilateral engagement [3].

Indian equity benchmarks responded positively to the breakthrough, with the NSE Nifty and BSE Sensex demonstrating strong upward momentum following the announcement [1]. This market celebration reflected relief that a major geopolitical overhang—often characterized by analysts as a “geopolitical discount” on Indian valuations—had been resolved [3]. The timing of the agreement is particularly significant, arriving when Indian markets had already experienced notable corrections that made valuations more attractive to value-oriented investors [2][4].

Understanding the potential impact of the trade breakthrough requires examining the substantial foreign portfolio investor outflows that preceded it [1]. Since August 2025, Indian equities experienced net foreign institutional investor withdrawals totaling ₹106,606 crore, representing one of the most significant extended periods of FII selling in recent years [1]. These outflows were driven predominantly by geopolitical and policy uncertainty rather than deterioration in underlying Indian economic fundamentals, according to multiple analyst assessments [3].

The concentration of US-based foreign portfolio investors among the sellers was particularly notable, given their historical preference for Indian equities and the long-standing economic relationship between the two nations [1]. This pattern suggested that a resolution of trade tensions could potentially reverse the sentiment-driven outflows more rapidly than would occur from purely economic catalysts [2]. Early evidence of such a reversal has already emerged, with FIIs recording net purchases of ₹1,906 crore in equities during early February 2026—the first significant buying activity following months of consistent selling [1].

The Indian market ecosystem has demonstrated notable resilience during the FII outflow period, with domestic institutional investors (DIIs) providing consistent and substantial support to market valuations [1]. In January 2026 alone, DIIs deployed ₹67,183 crore into Indian equities, while their total investment for 2025 reached approximately $90.1 billion [1]. This domestic investor foundation creates a potentially reinforcing dynamic when combined with returning FII capital, as analysts suggest the dual inflows could amplify positive market momentum [1].

The presence of strong DII participation also suggests that the Indian market has developed a more diversified investor base that may be less susceptible to sudden sentiment shifts driven solely by foreign portfolio flows [3]. This structural change in market participation patterns could provide additional stability as the market transitions from a period of FII dominance to a more balanced inflow environment [2].

The trade agreement creates differentiated opportunities across Indian economic sectors, with export-oriented industries positioned to benefit most directly from improved US market access [2]. Textiles and pharmaceuticals are expected to receive immediate boosts to their competitive positioning in the US market, as reduced tariff barriers translate to improved margins and potentially expanded order flows [2]. Engineering companies and auto-ancillaries similarly anticipate order flow improvements, particularly those with established US customer relationships and export-dependent business models [2].

Jefferies research has identified specific beneficiaries within the metals sector, including Hindustan Zinc and JSW Steel, based on anticipated demand patterns and trade flow adjustments [4]. The reciprocal nature of the agreement also positions Indian energy and technology sectors to benefit from increased US exports to India, potentially strengthening bilateral commercial relationships across multiple industries [2]. However, analysts note that the full realization of sector-specific benefits will depend on the detailed implementation of non-tariff barrier reductions, where specific terms remain to be clarified [1].

The tariff reduction framework carries significant implications for India’s broader macroeconomic position, particularly regarding balance of payments dynamics and foreign exchange reserve adequacy [2]. Deepak Agrawal of Kotak Mutual Fund has highlighted that the tariff cut should help narrow the balance of payments gap, strengthen forex reserves, and contribute to rupee stability—all factors that historically attract foreign institutional capital [2]. The currency stability dimension is particularly relevant for FII decision-making, as rupee volatility has been a consistent concern for foreign portfolio investors evaluating Indian market exposure [1].

The agreement arrives at a critical juncture when domestic growth trends and monetary policy signals were already receiving increased investor attention [1]. This convergence of positive domestic fundamentals with resolved external uncertainties creates a potentially more favorable environment for sustained FII engagement compared to periods when either domestic or external factors presented conflicting signals to investors [3].

The India-US trade breakthrough reveals several interconnected themes with implications for Indian equity market dynamics. First, the event demonstrates the significant influence of geopolitical factors on foreign portfolio investor behavior, with a single policy development capable of shifting sentiment that had accumulated over months of uncertainty [1][3]. The ₹106,686 crore outflow from August 2025 to the agreement date illustrates how policy ambiguity can create sustained capital flight even in the absence of fundamental economic deterioration [1].

Second, the early February FII buying activity suggests that foreign institutional investors maintain a high degree of sensitivity to Indian market developments and can respond rapidly to positive catalysts [1]. This responsiveness indicates that the Indian market remains integrated with global capital flows and that sentiment-driven reversals can occur more quickly than the extended outflow periods that preceded them [2]. The ₹1,906 crore in early February purchases may represent the initial phase of a broader trend reversal that analysts expect to accelerate as implementation details emerge [1].

Third, the domestic institutional investor base has evolved to provide meaningful market support during periods of foreign portfolio withdrawal, creating a structural buffer that differentiates the current market environment from historical periods of similar FII outflows [1]. The $90.1 billion deployed by DIIs in 2025 reflects a mature domestic investor ecosystem capable of absorbing selling pressure and maintaining market functioning [1].

Fourth, the sector distribution of potential benefits highlights the complexity of trade agreement impacts, with export-oriented industries receiving direct advantages while import-dependent sectors may face adjustment pressures [2][4]. This differentiated impact suggests that equity market performance following the breakthrough will likely exhibit sector-specific variations rather than uniform advancement across all categories [4].

The trade breakthrough creates several identifiable opportunity windows for Indian equities [1][2]. The elimination of the 50% tariff overhang removes a primary concern that had suppressed foreign investor engagement, potentially reopening Indian markets to capital pools that had been redirected to competing emerging market destinations during the uncertainty period [2]. Analysts at Anand Rathi Group and Green Portfolio PMS have explicitly noted expectations that substantial US FII capital may shift back to Indian equities as risk premia adjust downward [2][3].

The valuation correction that preceded the agreement has improved the risk-reward profile of Indian equities, creating entry points that appear more attractive to foreign institutional investors focused on fundamentals-based allocation decisions [2][4]. Combined with the policy clarity provided by the agreement, these valuations may accelerate FII engagement beyond what would occur from sentiment improvement alone [1].

Domestic retail investor participation is expected to increase alongside FII returns, potentially creating a reinforcing cycle of capital inflows that amplifies positive market dynamics [1]. This multi-source inflow environment represents a structural opportunity for sustained market advancement rather than transient rallies [3].

Execution risks remain a significant consideration despite the broadly positive market reception [1]. The agreement’s immediate tariff changes require detailed implementation frameworks, and sector-specific non-tariff barriers may persist beyond the headline tariff reductions [1]. Investors should monitor the specific terms of implementation to assess whether the full benefits anticipated by analysts materialize in practice [2].

External factors including global risk appetite, US Federal Reserve policy trajectory, and broader emerging market capital flow dynamics will influence the timing and magnitude of FII returns to Indian equities [1]. The agreement improves India’s relative positioning but does not eliminate sensitivity to global capital allocation trends [3].

The rupee stability that analysts expect as a consequence of improved external balances will be a critical indicator to monitor [2]. If currency movements diverge from expectations, they could moderate the anticipated FII response regardless of trade agreement implementation [1]. Additionally, the eventual distribution of sector-specific benefits remains subject to competitive dynamics and company-level execution capabilities [4].

The February 3, 2026 India-US trade agreement represents a potentially transformative development for foreign institutional investor engagement with Indian equities [1]. Key parameters of the deal include US tariff reduction from 50% to 18% on Indian goods and India’s commitment to eliminate tariffs on US imports, with immediate implementation of tariff changes [1][2][3].

Historical FII outflow data contextualizes the potential reversal, with ₹106,606 crore withdrawn from Indian equities since August 2025 [1]. Early evidence of sentiment shift has emerged through ₹1,906 crore in net FII equity purchases during early February 2026 [1]. Multiple analyst firms have expressed expectations for sustained FII capital inflows, citing improved risk-reward profiles and reduced policy uncertainty as primary catalysts [1][2][3].

Domestic institutional investors have provided consistent market support, with ₹67,183 crore deployed in January 2026 alone and $90.1 billion deployed throughout 2025 [1]. Sector beneficiaries identified by analysts include textiles, pharmaceuticals, engineering, auto-ancillaries, metals, energy, and technology, with specific companies such as Hindustan Zinc and JSW Steel highlighted [2][4].

Execution risks, implementation timeline uncertainties, and external factors including global risk sentiment and Federal Reserve policy will influence the pace and magnitude of FII return [1][2]. The rupee stability dimension and detailed non-tariff barrier reduction specifics warrant continued monitoring as indicators of deal execution effectiveness [2].

[0] Ginlix Analytical Database - Market Indices and Technical Analysis

[1] Invezz - “Can the India-US trade breakthrough bring FIIs back to Indian equities” (2026-02-03) https://invezz.com/news/2026/02/03/can-the-india-us-trade-breakthrough-bring-fiis-back-to-indian-equities/

[2] Business Standard - “India-US deal may spark market rally; FIIs seen returning” (2026-02-03) https://www.business-standard.com/markets/news/india-us-trade-deal-market-rally-fii-inflows-rupee-stability-126020300175_1.html

[3] MoneyControl - “FPI outflows may slow following India-US trade deal” (2026-02-03) https://www.moneycontrol.com/news/business/markets/fpi-outflows-may-slow-following-india-us-trade-deal-export-sectors-in-focus-jefferies-13807533.html/amp

[4] Jefferies Research - Portfolio shift recommendations post-trade deal (Referenced in MoneyControl coverage)