In MSCI’s Semiannual Index Review, Pakistan has avoided being placed on review for potential downgrade from the Emerging Market (EM) Index. Alongside, the three remaining Pakistan stocks in the main EM index (OGDC, HBL, and MCB) have also remained intact; even though, as we estimate, their quantitative criteria may have fallen short of the index thresholds for this review (refer table below). This could potentially be due to the applicability of Index buffers (33% below the threshold for normal and free float adjusted market caps). In the MSCI EM Small Caps index, however, three Pakistani companies have been deleted; they are FCCL, FFBL and ISL. It is worth noting that without significant improvement in Index performance, the risk – of being put for review in the upcoming semiannual review in Nov’19 – is still tangible.
There are some other important changes in the EM Index, which indirectly affect Pakistan. These include the inclusions of Saudi Arabia (1.42% weight, to be added in a phased manner until Aug’19) and Argentina (0.26% weight to be added with this review). Also, China A shares weight will progressively increase in the main Index to 1.76%. These changes will further shrink Pakistan’s weight in the main Index, already low at 3bps, and thus entrench its “irrelevance” problem for longer, as active EM investors can continue to overlook Pakistan despite its cheap valuations (c 45% discount to MSCI EM).
We think that if Pakistan had been put on review for downgrade, it may have worked out in the market’s favor given interest from foreign funds could have been galvanized further. Despite its small weight, Pakistan has seen net foreign buying of more than US$50mn this year and, as it formally enters an IMF program and embarks on structural reforms, should attract more interest across the rest of 2019. We retain our positive view on Pakistan equities, and highlight our liking for large banks (UBL, HBL, MCB) and E&Ps (OGDC, PPL).