Bernstein Warns: AI Stock Sell-Off May Not Boost Indian Investments

A recent report from Bernstein highlights that a sell-off in global artificial intelligence (AI) stocks is unlikely to result in increased foreign investment in Indian equities. The brokerage's analysis, released on November 2, emphasizes that the assumption that capital exiting the AI sector would flow into markets like India is flawed. Bernstein notes that approximately $350 billion in private AI investments and $600 billion in corporate AI spending are largely committed and not available for immediate redeployment.

The report further explains that a decline in AI stock valuations primarily affects investors' paper wealth rather than freeing up cash for reinvestment. Companies may utilize any savings from reduced AI expenditures to bolster cash flows, repurchase shares, or pay down debt. For Indian equities to benefit, investors would need to divest from AI stocks, retain the proceeds, and specifically choose Indian markets over others, a scenario Bernstein believes is unlikely.

Recent trends in investment flows do not support expectations of a rotation towards Indian equities. Bernstein points out that foreign investors have divested over $150-200 billion from South Korea and Taiwan, while India has experienced approximately $31 billion in foreign outflows this year. The brokerage cautions that an increase in India's weight within global portfolios does not necessarily equate to new investments, as fluctuations in fund sizes can alter allocations without actual increases in holdings.

High valuations and earnings outlooks remain significant barriers to attracting foreign capital to India. Bernstein's analysis indicates that India is currently the most expensive market in its comparison, with a blended 12-month forward earnings ratio of 18.6 times. The estimated earnings growth for 2025-2027 stands at only 11%, which is on the lower end compared to other markets. Despite some moderation in large-cap valuations, earnings estimates are still susceptible to downgrades, and mid- and small-cap stocks are trading at high valuations.

Additionally, Bernstein highlights challenges posed by rising crude oil prices, which have increased pressure on India's external balance and investor sentiment. The brokerage notes that the discount on Russian crude has diminished, complicating sourcing. However, Bernstein remains cautiously optimistic about modest gains in Indian equities for the remainder of the year, contingent on easing tensions in the Middle East and potential changes in U.S. tax policies. Ultimately, Bernstein asserts that India's ability to attract foreign investment will rely more on its own economic performance and fundamentals than on external factors like the global AI trade.