Foreign institutional investors (FIIs) may be forced into a tactical retreat after flooding the Indian stock market with over Rs 50,000 crore worth of US dollars in just 16 trading sessions, as geopolitical tensions between India and Pakistan threaten to burn the market's recent gains.

On the intervening night of May 8-9, Pakistani forces launched coordinated drone and artillery strikes across the border, prompting the Indian Army to act quickly. "The attacks were effectively repulsed," the Army said on Friday morning, despite reports of "numerous ceasefire violations" along the Line of Control in Jammu and Kashmir by Pakistani troops.

With that, India's geopolitical risk premium increased, as did FII anxiety.

The markets are already exhibiting signs of stress. The Indian rupee, which had been struggling against global headwinds, fell sharply. On Thursday, it fell 81 paise to close at 85.58 against the US dollar, the steepest single-day drop in more than two and a half years. The pain continued on Friday, with an additional 30 paise drop to 85.88 in early trade.

A forex trader summed up the rising sentiment on the Street when he stated, "In any war-like scenario, investors usually flee to safe-haven assets, causing capital outflows from the market and short-term currency weakness."

Now, you cant just tell me about books, you have to tell me about investing, what we call capsule detoxification……..After investing an incredible Rs50,400 crore in Indian stocks since April 15, foreign institutional investors (FIIs) are now faced with a tough choice: What should they do, continue or go back from what they are doing?

Even while India’s macroeconomic fundamentals are still fairly healthy, potential for escalation in conflict has the potential to shift the dynamics, warned Dr. V.K. Vijayakumar, Chief Investment Strategist at Geojit Financial Services.

“If Indo-Pakistan tensions heat up to long-term conflict, FII inflows will be hit.” Moreover, this could hamper the Monetary Policy Committee’s ability to lower the interest rates and put India’s efforts in fiscal consolidation at risk,” he warned.

‘In the normal situation on a day like this, the market would have suffered atrocious losses’, he added with cautious optimism. Two reasons, however, make this unlikely at this time: first, the conflict has the world seeing India's overwhelming dominance in conventional warfare so far; and second, the market remains buoyant against the backdrop of sound macroeconomic ones from home and abroad.

In fact, India’s economy with its good GDP growth and optimal interest rate backdrop is a magnet for foreign capital with the prospects in the United States and that in China are weakening. But, this thesis is currently under serious challenge.

Vikram Kasat, Head of Advisory at PL Capital, believes the consequences will be limited.

"India's economy, which recently passed the $4 trillion mark, has little direct trade with Pakistan. India's cross-border missile strikes had a limited immediate impact on domestic equities, currencies, and bonds," he said.

Nonetheless, he acknowledged investor anxiety. "Sentiments may remain jittery in the short term, but these tensions are unlikely to undermine the Indian economy's medium-term appeal. The majority of foreign investment in manufacturing is concentrated in southern and central India, far from the northern and western borders."

Meanwhile, analysts advise clients to be cautious. Leveraged and speculative positions should be reduced, and derivatives can be used to mitigate short-term volatility. In this uncertain environment, defensive sectors and high-quality large-cap stocks are being positioned as the safest investments.

The war drums may be distant, but their tremors are felt on Dalal Street, as evidenced by the Sensex falling more than 1,300 points intraday on Friday morning.