Indonesian stocks suffered their biggest one-day plunge since the 1998 Asian financial crisis on Friday, after the index provider MSCI warned that it could drop the country from benchmark indexes, which guide investment decisions by fund managers around the world.
The stock market in Jakarta dropped more than 11 percent, at one point triggering a trading halt because of volatility, deepening investor fears about the fragility of Southeast Asia’s largest economy. Indonesia’s exchange has lost nearly 40 percent of its value this year, making it one of the world’s worst-performing stock markets.
MSCI said on Thursday that it had launched a consultation on whether to downgrade Indonesia’s market classification by two rungs, from “emerging market” to “stand-alone” status. That was a marked escalation from earlier this year, when it had considered dropping the country one level, to “frontier market.” When a country reaches “stand-alone” status, its market is removed from all MSCI indexes, which are tracked by trillions of dollars in investments.
“It took us and the market by surprise,” said Gary Tan, a portfolio manager in charge of emerging equities at Allspring Global Investments in Singapore.
Mr. Tan said the latest announcement “was more severe and earlier than what was previously expected.” He noted that MSCI had previously announced it would assess Indonesia’s progress next month, leaving him and other investors puzzled as to “why they needed to get ahead of this.”
MSCI said it would reach a final decision by the end of next June. A downgrade to stand-alone status would put Indonesia in a category considered unsafe for investment, along with countries such as Ukraine and Zimbabwe, whose markets have been isolated by international sanctions or prolonged economic turmoil. It would be the only market in Asia with a stand-alone classification.
The warning presents a significant challenge for President Prabowo Subianto and his finance minister, Suahasil Nazara, who took office last month as Indonesia’s third finance minister in two years.
Since Mr. Prabowo came to power two years ago, investors have grown increasingly alarmed by his abrupt removal of senior economic officials. In addition, Indonesia’s president has rattled markets with populist policies that are straining the country’s finances and efforts to bring more of the economy under state control.
An MSCI downgrade could have major ramifications for Indonesia’s financial markets. Many global investors directly track the indexes or use them to guide their portfolios. Removing Indonesia from those indexes could force funds to sell billions of dollars in Indonesian stocks, draining liquidity from a market already battered by investor distrust.
“Despite the announced reforms, significant concerns remain around market dysfunction,” MSCI said in a statement.
The fallout could extend beyond stocks. A wave of selling by international investors would also put more pressure the rupiah, which has already weakened this year. On Friday, the currency breached the psychologically important threshold of 18,000 to the dollar. Local media cited Indonesia’s central bank as saying it was intervening in the market to support the currency and had sufficient foreign exchange reserves, worth more than $146 billion, to withstand the market turmoil.
Mr. Tan, the portfolio manager, said Indonesia’s bond and currency markets remained relatively muted on Friday, giving him some comfort that the turmoil was confined to the stock market. “At this stage, we don’t see a contagion effect,” he said.
Iding Pardi, the director of development at the Indonesia Stock Exchange, said at a news conference on Friday that the market operator was surprised by MSCI’s announcement. “We will focus on the fundamental reforms we are undertaking,” he said. “We cannot control whether foreign investors choose to enter or exit the market.”
Friderica Widyasari Dewi, the head of Indonesia’s Financial Services Authority, said the government respected MSCI’s assessment and would continue to make improvements. She sought to reassure investors that the Indonesian market remained “prospective and attractive,” citing the country’s strong economic fundamentals.
With a population of close to 290 million people, Indonesia is Southeast Asia’s largest economy and is a member of the Group of 20 nations. Its current MSCI classification, as an emerging market, puts it in the same category as China, India and South Korea.
It is the world’s largest producer of palm oil and nickel and is a major exporter of thermal coal, copper and natural gas. Indonesia’s vast mineral resources have also made it a critical player in global supply chains, particularly those supporting electric vehicles and the green energy transition.
MSCI said the problems facing Indonesia’s stock market were too severe to address with a conventional one-level downgrade to a frontier market, which would group it with countries like Sri Lanka and Vietnam. Feedback from investors, MSCI said, suggested that frontier-market status “would not properly recognize the depth of the market problems.”
The index provider said it would proceed with the proposed downgrade to stand-alone status “unless the consultation identifies clear evidence of material improvements in market governance and functioning to warrant reconsideration.”
Rin Hindryati contributed reporting from Bogor, Indonesia.
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