MSCI Semi-Annual Index Review – May’20

MSCI’s Semi-Annual Index Review is scheduled to take place on 12th May 20. Pakistan Market’s recent downtrend has garnered concerns of potential downgrade to Frontier Status. It is also important to note that Pakistan has been able to hold onto its emerging status despite not meeting the requisites due to the Index Continuity Rule.

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Pakistan’s Market has declined by 21% CYTD and 19% adjusted for USD since the last review. This decline has kept MSCI Pakistan’s weight on the lower side, estimated at around 2.4bps as of 30th Apr 2020.

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Note that at least 3 eligible constituents are required for a country to maintain its Emerging Market status. Presently, Pakistan has 3 constituents within the Emerging Index in OGDC, MCB and HBL. Back in May19, these stocks faced potential deletion from the index, and in turn, risked Pakistan’s potential downgrade. The buffer rule, however, enabled the 3 stocks to remain within the index, allowing Pakistan to maintain it EM status.

The buffer rule allows stocks to remain eligible for the index provided said stocks fall within the 2/3rd segment of the M. Cap and free-float requirements. For the upcoming review, we estimate the M.Cap and free-float based requirements to stand at USD 1,021mn and USD 511mn, respectively.

Based on these estimates, we believe OGDC will be able to comfortably meet the M.Cap criterion, while MCB will only be able to meet said criterion after the implementation of the buffer rule. HBL, however, is expected to fall short of the criterion even after the buffer rule implementation.

On a free-float basis, none of these stocks meet the minimum requirement of USD 766mn or even USD 511mn after the buffer.

Based on these estimates, HBL appears to be most at risk of a deletion from the MSCI EM index as it falls short of meeting both the total capitalization and free-float capitalization requirements even after the buffers. A potential removal of HBL from the MSCI index would make Pakistan susceptible to a downgrade as it would not meet the eligibility criterion for the minimum number of constituents.

Taking cue from recent downgrades, the timeline of Pakistan’s potential downgrade would likely entail a 3-6M consultation period for the decision and then an additional year for its implementation, likely stretching the potential downgrade to Nov’21.

As for potential upgrades from the small cap index, ENGRO, which has the largest weight in the index, appears to fall short of both the total market cap and the free-float based criteria. Consequently, we do not foresee any upgrades in the upcoming review.

We, however, believe MSCI may offer some additional relaxation due to the coronavirus outbreak, allowing Pakistan and its constituents to maintain their status. Note that equity markets globally have taken a beating once the pandemic spread, with the MSCI EM index falling by 17% CYTD. As such, we believe there is an increased likelihood that the MSCI may defer Pakistan’s reclassification consultation till the next Semi-Annual review scheduled Nov’20.

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