HSBC cut Indian shares to "underweight" from "overweight", saying markets were over-owned at a time when earnings were expected to slow and the scope of interest rate cuts were diminishing. The downgrade to underweight is the first by a major foreign bank since Indian shares began a rally last year that culminated with the NSE and BSE indexes hitting record highs in early March.
However, some of the shine has come off Indian markets over the past few weeks as anger over minimum alternate tax claims has pummelled sentiment at a time of rising volatility in global markets.
Worries about the slowing pace of reforms have also contributed to the falls. India's government spooked investors on Tuesday by deferring parliamentary bills intended to make it easier for businesses to buy land and harmonise national and state taxes.
Although HSBC did not refer directly to reforms, it recommended investors cut their positions in India.
"India remains one of the most over-owned markets in Asia, but earnings growth is slowing and there is little room for further rate cuts," HSBC said in a note dated on Wednesday.
The downgrade comes at a time when foreign investors have sold nearly $2.2 billion worth of cash shares in the last 16 sessions, if excluding Japan's Daiichi Sankyo's block sale of Sun Pharmaceutical Industries shares.
That marks a reversal of the heavy foreign buying of Indian shares since 2014 that had made the country "the most liked" among emerging markets, according to a Citigroup note this week.
Global investors are now shifting their funds to emerging markets such as China, South Korea and Taiwan.
Still, other investment banks are reiterating their bullish stance on India. Macquarie this week recommended investors use a 10 percent fall in Indian shares since their peak to go long.