‘Event of the year’ turns into nightmare on Sofokleous St.
It was supposed to be the event of the year for Greece’s battered stock exchange but it turned out to be its nightmare. Instead of net capital inflows and a rally, the bourse’s long-awaited upgrade to the league of developed stock markets by the MSCI (Morgan StanleyCapital International) at the end of May gave way to net outflows and a steep decline. In a few days, MSCI is to revise its benchmark indices and Greece is among the beneficiaries, but few people have taken notice. On October 9 MSCI announced most of the changes in its Standard Index Series from the first stage of the implementation of its new, enhanced methodology, effective this Friday. The second stage will take place at the end of May 2002. According to the new methodology, the market capitalization of index constituents is adjusted to take into account both the free float and the 85 percent target inclusion in each industry group in each country. Given the fact that MSCI indexes are tracked by foreign institutional portfolios with hundreds of billions of dollars under management, it is easy for anybody to understand the potential implications of such huge transfers for national markets, industries and individual companies. Unlike other MSCI country indexes, MSCI-Greece conformed to the requirements of the new enhanced methodology prior to entering the league of developed markets at the end of May. This explains why well-known foreign banks and investment houses estimate that Greece’s weight in the MSCI benchmark indexes, such as the MSCI EAFE and MSCI Europe, will increase, even if only slightly, with this week’s change. Deutsche Bank analysts estimate that Greece’s weight in the MSCI EAFE and MSCI Europe indexes is going to rise to 0.38 percent from 0.36 percent and 0.52 percent from 0.50 percent at present, respectively. Unlike other indexes such as MSCI EURO, passively managed portfolios are known to track MSCI WORLD, MSCI EAFE and MSCI Europe. But even this tiny increase in Greece’s estimated weight in the MSCI benchmark indexes can make a big difference. The reason is that passively managed portfolios pay close attention to the so-called tracking error, which accounts for the difference between the actual return earned by a fund and the return of the benchmark index during the same time period. Therefore, the bigger the country’s weight in the benchmark index, the bigger the tracking error for those funds tracking the index but which are not exposed to the specific market. Of course, some passive portfolios are restricted to replicating the returns of the benchmark index, while some others are given minor leeway by their charter. The latter tend to invest in some markets, especially smaller ones, by buying not all the constituents of the specific country MSCI index but just a few stocks accounting for 70 percent or more of the index. Traders and analysts working for foreign houses have already noticed net inflows into a handful of Greek stocks, such as OTE and Panafon, over the last few weeks, a trend linked to the first phase of the MSCI rebalance. These net inflows have gone largely unnoticed, given the euphoria created by the bourse’s recent rally and the fact that this money has been invested gradually. The same market participants say most of these foreign passive funds had underweighted Greece in their stock portfolios and were forced to reconsider their positions, in view of the country’s increased weight in the standard MSCI indexes and some market-friendly news coming out of Greece in the last few weeks. But what’s next? The same traders and analysts estimate that about 45 percent of the expected money traffic linked to the MSCI rebalance has already taken place and expect another 50 percent or so to take place on Thursday, Friday and the first week of December. If that’s the case, then assuming the trend continues, it is likely that we will see more net inflows into a small number of Greek stocks belonging in the MSCI-Greece stock index over the next few days. Nevertheless, the main question is: Will these net inflows be big enough to overcome liquidations by other domestic and foreign funds? Nobody knows for sure. A lot will depend on the conditions prevailing in international markets. On the positive side, Greece’s weight is increased. On the negative side, however, some large European markets followed closely by many Greek investors, such as Germany and France, are expected to suffer net selling this week because of their reduced weight in the revised MSCI benchmark indexes.