[Beginner's Guide to Stock Market] Russia Excluded from MSCI Emerging Markets Index, Korea's Reflective Benefit? ... What Is the MSCI Index?

[Image source=Reuters Yonhap News]

[Asia Economy Reporter Kwon Jae-hee] Amid the ongoing Russia-Ukraine war, Morgan Stanley Capital International (MSCI) has announced that it will exclude Russia from its emerging markets index. This has led to market expectations that the domestic stock market will benefit from this change. What is the MSCI index that is causing such a market reaction?

What is the MSCI Index?

[Image source=Reuters Yonhap News]

The MSCI index stands for Morgan Stanley Capital International and is one of the global stock market benchmarks developed by the American firm Morgan Stanley. Alongside the FTSE index, it is a representative indicator used as a standard for international financial fund investments. As the first international benchmark, about 95% of U.S.-based funds use this index as a reference, making it an important criterion for fund management.

To aid understanding, let's briefly explain funds as well.

There are active funds and passive funds.

Active funds refer to funds managed by fund managers who actively pursue higher returns through aggressive management strategies. Fund managers actively discover and include stocks to build the fund. Because of this, active funds generally have higher volatility and risk.

On the other hand, passive funds hold stocks that make up a specific stock index and aim to achieve returns equivalent to the index's growth rate. They select and manage stocks that closely follow the flow of stock indices such as KOSPI or KOSPI 200, so they are also called index funds. MSCI is the index that passive funds use as a benchmark. When the weights of countries or individual companies included in the MSCI index change, passive funds adjust their portfolios accordingly.

Why Does Korea Benefit from Russia's Exclusion?

[Image source=Reuters Yonhap News]

The MSCI index is divided into three categories: developed markets index, emerging markets index, and frontier (developing countries) index. Korea belongs to the emerging markets index.

The emerging markets index includes countries such as Korea, China, Brazil, Taiwan, India, South Africa, Russia, Mexico, Israel, Malaysia, Indonesia, Thailand, Turkey, Chile, Poland, Colombia, Hungary, Peru, Egypt, the Philippines, Czech Republic, and Morocco.

MSCI regularly rebalances at the end of February, May, August, and November each year. This time, MSCI announced that it will downgrade Russia from the emerging markets index to the standalone markets index.

The standalone markets consist of countries not included in MSCI's developed, emerging, or frontier indices. Countries included in the standalone markets are Ukraine, Bulgaria, Lebanon, Palestine, among others.

MSCI explained its decision to classify Russia as a standalone market by stating, "Due to increased volatility of the ruble and economic sanctions from Western countries, Russia is no longer considered an investable market."

Currently, Russia ranks 11th in the MSCI emerging markets index, accounting for 1.49% of the weight. If Russia is excluded and its weight in the emerging markets index drops to zero, funds tracking this index will sell Russian assets and increase holdings in countries with increased weights such as China, India, and Korea. Korea's weight will rise from the current 12.25% to 12.43%, an increase of 0.19%. Accordingly, the securities industry expects additional capital inflows into the domestic stock market. The estimated capital inflow into the Korean stock market due to Russia's exclusion from the MSCI emerging markets index is about 800 billion to 900 billion KRW.

Researcher Kang Song-cheol from Eugene Investment & Securities said, "In the short to medium term, countries included in the emerging markets index, including Korea, will benefit from Russia's exclusion," adding, "Considering only passive funds, the capital inflow into the Korean stock market is expected to be around 800 billion KRW, which could affect supply and demand for about 2 to 3 days."

The MSCI emerging markets index excluding Russia will be applied after the market close on March 9 (local time), so rebalancing demand is expected to flow in from the close of trading on the 9th to the opening price on the 10th Korean time.

Bonus / What is LG Energy Solution's Inclusion in the MSCI Index?

On the morning of the 27th, Kwon Young-soo, CEO of LG Energy Solution, who attended the KOSPI new listing ceremony of LG Energy Solution held at the Korea Exchange in Yeouido, Seoul, is striking a ceremonial drum to commemorate the listing. Photo by Kang Jin-hyung aymsdream@

As of the end of 2021, 110 companies (stocks) are included in MSCI's Korea index. Not all Korean companies are included in this index; only those meeting certain criteria are included. With LG Energy Solution's listing, it quickly rose to the second-largest market capitalization after Samsung Electronics, leading to its special inclusion in the MSCI index.

On January 27, MSCI confirmed the early inclusion of LG Energy Solution, and it was included in the MSCI Global Standard Index as of the market close on February 14. It is expected to be included early in the KOSPI 200 on the 11th of this month.

The top 10 companies currently included in the MSCI Korea index are Samsung Electronics, SK Hynix, Samsung Electronics Preferred, Naver, Samsung SDI, Kakao, Hyundai Motor, LG Chem, KB Financial Group, and Kia.