Just four years after being updated to being an emerging market (EM), Morgan Stanley Capital International (MSCI) announced on Wednesday to downgrade Pakistan Stock Exchange (PSX) as a frontier market (FM).
This is in line with the feedback from the market participants from its recent Consultation of a Market Reclassification Proposal for the MSCI Pakistan Index, the press release from the company read.
MSCI will reclassify the MSCI Pakistan Indexes from Emerging Markets to Frontier Markets in one step, coinciding with the November 2021 Semi-Annual Index Review (SAIR).
Based on a simulation using pro forma data as of August 31, 2021, this would lead to the inclusion of four securities in the MSCI Frontier Markets Index with an estimated index weight of 1.90%, MSCI said.
The reason for this downgrade was given by the statement, reading, “Although the Pakistani equity market meets the requirements for Market Accessibility under the classification framework for Emerging Markets, it no longer meets the standards for Size and Liquidity.”
More specifically, index continuity rules have been applied since the November 2018 Semi-Annual Index Review to maintain the required three constituents in the MSCI Pakistan Index.
Adding, “Since the November 2019 SAIR, there have been no securities in the MSCI Pakistan equity universe that meet the Emerging Markets Size and Liquidity criteria within the MSCI Market Classification Framework, “leading to the decision.
Bloomberg wrote that in 2017, the KSE-100 Index rose to a record in the time leading to the upgrade, but after the fact, went down. The major reason for this was the ousting of the Ex-Prime Minister Nawaz Sharif, which sent the market on a bearish trend with foreigners going on a selling spree.
Since then, according to Bloomberg, foreign investors have pulled out around $1 billion from the Pakistani shares market.
Reaction by analysts
There has been a mixed response to the update, where some are celebrating this update under the banner of, “Big fish in a small pond”, believing that the decision could have small to no impact on the country’s stock market.
The side believes that Pakistan’s weight among the emerging market was reduced as it became a small fish in a very big pond.
Topline Securities in its report showed that the responses of three different markets namely Jordan, Argentina, and Morocco remained mixed, with some doing well post downgrading, while others did poorly.
Topline Securities wrote, “We believe the reclassification to FM from EM may turn out to be beneficial for Pakistan in terms of reduction in foreign selling. Foreigners have sold equities worth $730 million (net) since December 31, 2019, and have sold equities worth $159 million (net) this year already. We expect the selling pressure from foreign fund to persist till at least November 2021, and way wade off post the balancing.”
Similarly, AKD analysts also said, “Market might take a knee-jerk reaction in the immediate aftermath of the classification, but the reclassification comes with a potential silver lining owing to Pakistan’s increased weight in FM index (~1.9%) and FM100 index (~5.5%) as opposed to a cumulative weight of 2bps in MSCI EM index.”
Adding, “Once the early jitters subside, the benchmark may post a solid price performance on the back of strong fundamentals.”
However, Bloomberg quoted the head of research at Ismail Iqbal Securities Pvt saying that there is some excitement around the reclassification with the phrase ‘big fish in a small pond’ resurfacing but the pond has become smaller as funds tracking it have almost halved since 2016 to around $5 billion.