FII Selling Sparks Market Correction: Why Indian Largecaps, IT & Capital Goods Are Now Prime Investment Opportunities

When stock prices get too high compared to their long-term averages, they eventually come back to more reasonable levels—this is called “reversion to the mean.” However, this adjustment might take longer than expected. As economist John Maynard Keynes once said, “Markets can stay irrational longer than you can stay solvent.”

Right now, India’s market valuations are not in a bubble, but some mid- and small-cap stocks are priced much higher than they should be. However, large-cap stocks, while slightly expensive, aren’t overly priced. A market crash isn’t expected, because strong domestic investments are keeping the market stable during downturns. But, a correction (a temporary drop in prices) is happening due to ongoing selling by Foreign Institutional Investors (FIIs). In fact, the Nifty index has fallen about 6% from its recent peak.

FII Selling and Global Factors

FIIs have been selling a lot of Indian stocks recently. According to data, in the first two weeks of October, FIIs sold shares worth ₹88,244 crore.

One reason for this FII selling is the recent efforts by China to boost its struggling economy through government policies. These actions have made Chinese stocks very cheap, encouraging FIIs to sell their more expensive Indian stocks and buy Chinese ones instead. Since foreigners can’t buy stocks listed on China’s Shanghai Stock Exchange, they purchase the Chinese “H” stocks listed in Hong Kong. This shift in investments has caused markets in China and Hong Kong to rise dramatically, with the Hong Kong Hang Seng index jumping 35% in less than a month.

Low Earnings Growth and Market Impact

One concern is that the earnings growth of Indian companies is expected to slow down. In FY24, earnings grew by 26%, but for FY25, the estimated growth is only around 10%. A market with rising stock prices and slowing earnings growth isn’t a good combination, and this could keep the market weak in the short term. However, earnings growth is expected to pick up again in FY26, which might lead to a market rebound once there’s more clarity.

‘Sell India, Buy China’ – A Temporary Trend?

The recent shift from Indian to Chinese stocks is likely a short-term strategy. Despite the short-term excitement, China’s economy is dealing with deep-rooted issues that can’t be solved just through government policies. For example, the real estate market, which makes up 27% of China’s GDP, is in serious trouble with an oversupply of properties. In May 2024, Bloomberg Economics reported that China had the equivalent of 60 million unsold apartments, which could take four years to sell without government intervention.

Additionally, China’s population is declining, which negatively affects demand and economic growth. With China’s debt-to-GDP ratio at 280% and government debt at 84%, it will be hard for the country to maintain a strong economic recovery.

Long-Term Prospects for India

In contrast, India’s economic growth story is more stable and has stronger long-term potential. While India’s stock valuations are currently high, FII selling creates a good opportunity for long-term investors. Financial stocks have been hit the hardest by FII selling, which has made them more attractively priced. Telecom, capital goods, and IT stocks also look promising for long-term investment, despite their higher valuations.

For patient investors, this correction could be the right time to invest in quality large-cap stocks.