India-US Trade Agreement Triggers Significant FPI Short Covering in Derivatives
The announcement of a landmark trade deal between India and the United States has prompted foreign portfolio investors (FPIs) to unwind a substantial portion of their bearish bets on Indian markets. However, market analysts believe a complete reversal to positive positioning remains contingent on the specific details of the agreement and broader global factors.
Substantial Reduction in Bearish Positions
On Tuesday, FPIs dramatically cut their cumulative net bearish positions in futures and options contracts on the Nifty and Bank Nifty indices by 39%. This reduction brought their positions down to 542,299 contracts from a record high of 887,479 contracts recorded on Sunday. The market activity on Sunday was due to a special trading session for the Union budget presentation.
This short covering was directly triggered by news late Monday that the United States would slash tariffs on Indian imports to 18% from the previous 50%. The market response was immediate and positive, with the Nifty index surging 2.5% to close at 25,727.55 points on Tuesday. Complementing this derivatives activity, FPIs also made provisional net cash purchases worth ₹5,236 crore, further fueling the equity rally.
Analysts Cautious on Full Reversal
Despite this significant unwinding, analysts caution that FPIs continue to hold substantial bearish exposure. At Tuesday's market close, these positions still accounted for 61% of the total outstanding index derivatives positions. Market experts suggest that while short covering may persist in the near term, a complete exit from bearish bets is unlikely until the precise terms of the US-India trade pact become clear.
Sahaj Agrawal, senior vice president of research at Kotak Securities, noted: "FPI short covering and cash-based buying could continue in the short term owing to the trade deal announcement. However, they would calibrate their stance based on news flows, not just on the deal, but on other developments related to geopolitics and issues like AI, which remains an overhang on the Indian IT sector."
Agrawal added that markets are likely to remain in a consolidation phase within the 25,400 to 26,000 range for the immediate future. This view is echoed by Kruti Shah, quant analyst at Equirus Securities, who also expects market consolidation between 25,500 and 26,000 points until more deal specifics emerge.
Options Activity Reflects Continued Caution
The cautious sentiment among market participants, including FPIs, was evident in Wednesday's weekly options activity. Around noon, traders were selling 87 put options for every 100 call options sold on contracts expiring the following Tuesday. This heavier selling of calls relative to puts typically signals expectations of market correction or sideways movement, allowing traders to retain premiums from call buyers.
Shah explained that this options trading pattern reflects the prevailing wariness among institutional players who remain uncertain about the market's direction until more clarity emerges on multiple fronts.
Broader Context of FPI Activity and Market Performance
The recent short covering comes against a backdrop of sustained FPI selling pressure on Indian equities. Throughout 2025, FPIs offloaded shares worth ₹2.5 trillion, contributing to a significant market correction from 23,645 points at the end of December 2024 to 21,743.65 points by April 7, 2025.
The market subsequently recovered to reach a fresh high of 26,373.2 points on January 5, 2026, largely driven by robust domestic institutional investor buying totaling ₹7.8 trillion during this period. Despite this recovery, Indian equities have underperformed compared to emerging market peers, partly due to persistent FPI selling.
MSCI data reveals that the MSCI India index generated a gross return of just 4.29% last year, significantly trailing the 35% return from the broader MSCI Emerging Markets index. This underperformance reflects both the rupee's depreciation and lackluster corporate earnings growth in India.
Potential Positive Impacts of Trade Deal
Motilal Oswal Financial Services Ltd. highlighted in a recent strategy note that the US-India trade agreement could potentially reverse this underperformance trend. The firm stated: "With the fog of uncertainty now being lifted, we believe that multiple positives will accrue in the form of 1) reversal of FII outflows, 2) INR recovering its lost ground, 3) general improvement in sentiments towards Indian equities, 4) return of confidence for FDI, and 5) retracement of India's underperformance vs. EM peers."
However, analysts caution that broader geopolitical risks, including tensions with Iran and concerns about potential artificial intelligence sector bubbles, could continue to weigh on market sentiment even as the trade deal specifics are finalized. The interplay between these domestic and international factors will likely determine the sustainability of the current market recovery and the extent of FPI position reversals in the coming weeks.
