Chinese Stocks Miss out Again on MSCI Index

Inclusion in MSCI Inc.’s stock indexes opens a country to global investment and brings a stamp of financial credibility. For the third straight year, MSCI rejected China’s mainland shares. The decision is a blow to President Xi Jinping’s efforts to raise the profile of his country’s markets and affects investment choices covering trillions of dollars held in pensions and mutual funds around the world.

1. Can you explain the importance of this?

MSCI is the world’s biggest index compiler, with more than US$10 trillion in assets benchmarked to its products. While it reclassified Pakistan as an “emerging market” country on Tuesday, its call on China, the world’s second-biggest stock market, was by far the most closely watched judgment. A nod from MSCI could have seen as much as $30 billion flow into China’s markets from global money managers buying shares, and much more over time. The symbolism of adding the mainland to the global financial community would have arguably been more important.

2. So what happened?

China was denied inclusion in the global Emerging Markets Index for the third straight year. While MSCI could choose to add the country in the next 12 months, it’s more likely that any further judgment is pushed back another year.

3. Why did MSCI reject China?

It comes down to control, specifically the control that China’s government has over its financial markets. That came into sharp focus during last year’s epic boom and bust that wiped $5 trillion off the value of mainland shares. MSCI pinpointed a monthly repatriation limit of 20 percent as a “significant hurdle” for investors such as mutual funds faced with redemptions. The prevalence of long-term trading halts—at one point last year, half of China’s stocks were shut down—also scares money managers, who need to know they won’t get stuck in their investments. MSCI said investors need more time to digest recent policy changes, including a commitment to make sure those suspensions don’t happen again.

4. What’s next?

There’s no question that China will one day be added to MSCI’s emerging markets index; the only issue is when. While Beijing has taken steps to roll back some of its restrictions, Tuesday’s decision shows there’s still work to be done. Whether that can be completed in the next year is a question that will occupy policy makers and investors.