So far, in July, FIIs have been net sellers at Rs 290 crore but they have been nibbling at stocks in the past couple of days.
"FIIs have some comfort about the rupee stabilising at levels of Rs 59-60 against the dollar and about the drop in gold imports in June. So, we are not expecting a major sell-off from this point onwards," said Chokkalingam G, executive director and chief investment officer at Centrum Broking.
Since January of this year, FIIs have pumped in close to Rs 70,397 crore into the Indian equity market.
Analysts said US Fed chairman Ben Bernanke's comments on Wednesday about the necessity' of the stimulus programme for the recovery of the US economy is speculated to encourage FIIs to invest again in emerging market equities such as India.
FIIs had turned sellers in June due to the sharp decline seen in the rupee. With the improvement seen in the US economy, the dollar strengthened, causing currencies across the emerging market spectrum to decline in June. The rupee has fallen by a little more than 10 per cent since June 11.
Improving jobs data and lower inflation in the US were seen as indicators of a recovering economy, leading investors to believe that the QE3 (stimulus) would be phased out sooner than anticipated, causing funds to flow away from emerging markets, back into developed markets. Emerging economies had been the biggest beneficiary of the QE3 bond-buying programme, worth $85 billion.
However, Bernanke's comments about the need for a more accommodative monetary policy has raised hopes about the continued availability of funds for investment into emerging economies like India.
"There is growing confidence among investors that the Indian economy would do much better, now that the economy and interest rate-cycle seem to be bottoming out," said Saurabh Mukherjea, head of institutional equities at Ambit Capital. "With the economy and the rate-cycle bottoming, FIIs now see India as a stable economy. They would continue to buy into Indian equities, in stable high quality Indian stocks," he added.
Market participants expect FIIs to increase allocation only if the government takes measures to ensure the rupee does not slide further. Any instability in the rupee levels could further worry investors, causing funds to flow out, they said.
For now, funds are unlikely to move out of Indian equity markets. But the quantity that could find its way into the economy would depend largely on government reform actions and the performance of companies in the coming results season.