KARACHI: Morgan Stanley Capital International (MSCI) announced the results of November 2018 Semi-Annual Index Review (SAIR) Tuesday night, whereby Lucky Cement (LUCK) and United Bank Limited (UBL) have been removed from MSCI standard index (large & mid cap index), while both these stocks have been added to MSCI small cap index.

The decision comes on the back of severe declines in their market capitalizations. These changes will be implemented at close of November 30, 2018.

“We expect this to result in sell-off of around 10 million shares ($35 million at current value) from LUCK and 25 million shares ($26 million at current value) from UBL,” Hammad Aslam at Elixir Securities said.

“While the bulk of these trades would be executed on November 30, 2018, we will likely see foreign and domestic selling by active funds tick up in these stocks over the coming days, to be eventually squared on the last trading day of October”.

After the exclusion of United Bank Limited (UBL) and Lucky Cement (LUCK), analysts expect Pakistan’s weight in the MSCI Emerging Markets (EM) Index would drop to 0.04 percent from 0.06 percent at September 2018 end.

After the removal of UBL and LUCK, now three stocks (large & midcap) remain part of the standard MSCI EM Index; Oil & Gas Development Company (OGDC), Habib Bank Limited (HBL), and MCB Bank Limited (MCB).

As a way of background, Pakistan was upgraded to MSCI EM Index in May 2017, when six securities from the country were included in the Standard Index. The initially assigned weight stood at 0.14 percent, which gradually declined to 0.07 percent by the last Semi-Annual Index Review (SAIR) in May 2018.

Pakistan equities have however continued to tumble, which has been further exacerbated by a rapid devaluation in Pakistani Rupee. Even without taking into account the removal of UBL and LUCK, Pakistan’s weight in the EM Standard Index would have already come down to under 0.06 percent.

From the Small Cap Index, MSCI announced deletion of two companies i.e. Honda Atlas Cars (HCAR) and Maple Leaf Cement Factory (MLCF) – already flagged as the most vulnerable due to the erosion in the market capitalizations.

On the other hand, UBL and LUCK would now be added on the list (post their downgrade from the Standard EM Index). Resultantly, 24 companies from Pakistan now constitute the Small Cap Index, compared to an original number of 27 in May 2017 and 22 prior to this SAIR.

However unlike the Standard Index, the MSCI Small Cap Index has very limited traction and is thus unlikely to result in a meaningful outflow from the stocks that were removed from the Index.

Note that the natural trimming in weight of a country due to under-performance does not lead to any significant changes in asset allocations by passive funds as the weights are automatically adjusted in their portfolios. However the removal of UBL and LUCK from the Standard EM Index implies that Foreign Passive funds will now reconstitute their portfolios and likely exit from these names.

Habib Bank Limited (HBL) would be the most at risk for May 2019 SAIR. The stock’s market capitalization currently stands at $1.5 billion, which means erosion of another 7.0 percent from its stock price and/or Pak Rupee parity would risk the stock’s exclusion from the EM Index

“MSCI requires at least three companies from a country to be included in the Index for a country to be qualified as Emerging Market, which means that potential removal of Habib Bank Limited (HBL) in May 2019 will open the chapter of a complete downgrade of Pakistan from Emerging Markets to Frontier Markets,” Hammad Aslam said.