Indonesia faces rare MSCI exclusion that could cut it off from global capital

A warning from MSCI that it may exclude Indonesia from its stock market indexes — benchmarks used by global financial investors — risks cutting the nation off from international capital and relegating it to an investment backwater.

MSCI stunned investors by proposing that it ​remove Indonesia from its global stock indexes altogether, months after floating a less severe downgrade from emerging market to frontier over opaque ownership and securities trading practices.

A cut to standalone status would be unusually harsh and rare: ‌Argentina was dropped in 2021 for imposing capital controls, ‌and Russia in 2022 after Western sanctions cut it off from global finance over its invasion of Ukraine. Indonesia would find itself in a small group of standalone markets that includes Lebanon and Zimbabwe.

Indonesia has ⁠been an MSCI emerging market ⁠since 1989, and a downgrade of the proposed magnitude would be a huge reversal for a market that until ​recently was a foreign investor favourite.

Removing the country from major global benchmarks that steer billions of dollars in foreign investment could hurt far more than just its stock market. 

“The proposal ... goes well beyond what we had considered our worst-case scenario,” said Rully Arya Wisnubroto, head of research at Mirae Asset Sekuritas in Jakarta.

The MSCI announcement wiped about $65 billion off the value of Indonesian equities, with an 11.6% drop on the Jakarta Composite Index — its biggest one-day fall ​since the Asian financial crisis in 1998.

The shock spread beyond equities, with the rupiah falling as much as 0.8% and some analysts raising the possibility of a central bank interest rate hike on Tuesday, when rates had been expected to stay on hold.

“The purpose (of a rate ​hike) would be pre-emptive, i.e. in order to prevent the expected equity foreign outflows from widening to the fixed income side as well as being exacerbated by resident ​capital outflows,” Citi wrote in a note to clients.

Unlike a downgrade to frontier status, a move to standalone would provide no offsetting demand from frontier-index funds, leaving passive emerging-market money heading for the exits.

Banks estimate the move could trigger $3 billion to $6 billion in passive outflows, with JPMorgan putting the figure at $4.8 billion and UBS warning active investors could pull another $15 billion.

More than $1.8 trillion in assets are benchmarked to MSCI’s emerging-market indexes, according to the index provider’s website.

Asian share markets slipped on Monday as unease over AI’s enormous funding needs undermined confidence ahead of a week packed with earnings, while the euro eased in the wake of ​rioting across France.

A fall in oil prices offered some support to bonds and Wall Street stock futures, limiting Asia’s losses. Oil fell following ‌US President Donald Trump’s decision to waive ‌some sanctions on Russia, though he later said a final decision on the matter had not been made.

US Secretary of State Marco Rubio said on Saturday that the president would take up to 60 days to assess the economic ​impact of such a move. Brent futures still fell 1.6% to $108.06 a barrel, while US crude futures lost 0.7% to $100.70 a barrel. [O/R]

Meanwhile, Iran reported another tanker had hit a mine in the Strait of Hormuz.

Geopolitical tensions combined with safe-haven flows from equities to extend a rally in sovereign bonds, ​with 10-year Treasury yields down 3 basis points at 5.0645%, having just recorded their largest weekly fall in over eight months.

All of this helped S&P 500 futures edge up 0.5%, while ​Nasdaq futures rose 0.8%.

Asian markets were hampered by concerns about tech; Japan’s Nikkei fell 2.0% after losing 5.4% last ​week as the tech sector took a beating. South Korea dropped 1.6%, having shed more than 14% last week.

MSCI’s broadest index of Asia-Pacific shares outside Japan eased 0.3%. 

“Investors have long worried that AI revenues won’t be sufficient to recoup the massive upfront investment, while AI infrastructure may need to be written down as it ages and depreciates in the meantime, which lowers book value massively,” said My Bui, an economist at fund manager AMP.

“Rising government bond yields and wider corporate credit spreads are increasing financing costs, making it harder to borrow, refinance, and keep the AI infrastructure build-out going.”