Will Rising India-Pakistan Tensions Prompt an FPI Pullback?

Tensions between India and Pakistan have reached a worrying high, and foreign investors are paying close attention. They're weighing the risks and asking a big question: Is it still safe to keep money in the Indian market? Recent military activity has spiked regional instability, and that’s got investors on edge.

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Escalation of Hostilities

Things escalated after a terrorist attack in Pahalgam, Jammu and Kashmir, on April 22, which killed 26 civilians. India blamed militant groups based in Pakistan and hit back with “Operation Sindoor” on May 7. Using Rafale fighter jets and precision-guided missiles, India targeted suspected terrorist camps in Pakistan-administered Kashmir and Punjab. The strike was quick, just 23 minutes, but serious.

Pakistan didn’t stay quiet. It responded with its own set of drone and missile strikes, hitting Indian cities like Amritsar. India’s S-400 missile defence system was activated for the first time in real combat, successfully intercepting the attacks. Since then, both countries have been trading blows through drones and artillery, raising fears that this could spiral into a full-blown war.

Impact on Financial Markets

The financial fallout is already happening. In the first three months of 2025, foreign investors pulled out a massive ₹85,300 crore from Indian stocks. January alone saw outflows of ₹78,027 crore. The trend carried into February with another ₹7,342 crore exiting. It’s not just numbers on a spreadsheet; the Nifty Midcap index is down more than 9% this year.

Analysts say this investor flight is due to a mix of global uncertainty, high stock prices at home, and geopolitical fears. Prashanth Tapse from Mehta Equities pointed out that FPIs pulling out is a significant reason for the recent market slump, which was made worse by worries about U.S. tariffs.

Investor Sentiment and Risk Assessment

With things heating up, foreign investors are weighing the risks. India is usually seen as a stable place to invest, but the threat of war with Pakistan changes the game. India’s decision to suspend the Indus Waters Treaty after the Pahalgam attack didn’t help; it raised alarms in Pakistan, which warned that interfering with shared water flow could be seen as an act of war.

The economic ripple effects are growing. Pakistan has closed its airspace to Indian airlines and suspended cross-border trade. These moves affect trade and shake regional stability, which is the bedrock of investor trust.

Outlook and Strategic Considerations

India insists its military strikes were controlled and not meant to escalate the situation. Still, with both countries being nuclear powers, even a slight misstep could lead to disaster. Global leaders, including former U.S. President Donald Trump, urge both sides to cool down and start talking.

For now, many foreign investors are likely to stay cautious. India still has solid long-term growth potential, but the current risks might push investors to park their money in calmer waters until things settle.

The bottom line? This conflict isn’t just a political or military issue; it’s shaking investor confidence, too. If there’s a silver lining, it’s this: the situation shows just how crucial peace and diplomacy are, not just for people but for the financial future of the region.