Why China failed to make it to the MSCI Index

Last week, Morgan Stanley Capital International (MSCI), a widely-tracked global index provider, said it would not add China’s local currency shares to its benchmark emerging markets index. Here is an explainer on what it is all about.

What is MSCI?

It is the world’s biggest index compiler, with more than $10 trillion in assets benchmarked to its products.

Why are MSCI Indexes important?

The Index is closely tracked by global investors. Inclusion in MSCI Inc.’s stock indexes opens up investment interest from foreign investors in a particular country and brings a stamp of financial credibility. For instance, The MSCI Emerging Markets Index is tracked by money managers with some $1.5 trillion of assets.

What is China mainland and why did its shares not feature in the MSCI emerging markets Index?

It is an area under the direct jurisdiction of China and excludes special administrative regions of Hong Kong and Macau. The Chinese mainland markets were not open to foreign investors unlike India or others. So, foreign investors were hitherto getting access to non-mainland shares— those that are traded in the markets of Hong Kong and Macau. The non-mainland shares were part of the MSCI Emerging Markets Index.

However, China had been working to ease restrictions on foreign investors and win over MSCI. For instance, Chinese regulators created new rules that limit the tenure companies could suspend trading in their shares and allow foreign money management funds to take bigger stakes in the market. Hence, it was widely expected that MSCI will add mainland China shares to its emerging markets Index.

What now?

Contrary to expectations, China was denied inclusion into the global emerging markets index for the third straight year.

Why did MSCI reject China again?

MSCI said investor concerns over the openness and transparency of Chinese markets, despite years of reform, convinced the index provider that China’s A shares weren't ready for addition to the index.

“International institutional investors clearly indicated that they would like to see further improvements in the accessibility of the China A shares market before its inclusion in the MSCI Emerging Markets Index,” said Remy Briand, global head of research at MSCI. MSCI also pointed out that its decision also reflects continuing issues for foreign investors such as norms that prevent them from taking out more than 20 per cent of their investment each month.

What would have the inclusion meant for China?

China could have seen as much as $30 billion pumped into its stock market from global investors buying its shares. The inflows could have increased more over time.

Will it matter for India?

If China mainland shares were added into the emerging market index, India would have seen a drop in its weightage on the index and money flowing out its markets.

Currently, India has a weightage of 8.1 per cent, which could have dropped to 6.4 per cent and seen an outflow of $1.5 billion, in the event of 100 per cent inclusion of Chinese A-shares.

What next?

China still has a chance of getting added to the emerging markets index, but the timing will depend on further policy-easing measures and review.

Until then it would be ‘wait and watch’ for investors.

The MSCI Emerging

Markets Index is tracked

by money managers

with some $1.5 trillion

of assets