Frail Indonesian markets reel after MSCI shock warning

SINGAPORE: Indonesian markets face a tense start on Monday after a warning from MSCI over possible expulsion from some of its indexes next year rattled already fragile investor sentiment and sparked a furious selloff in the world's worst-performing stock market.

Jakarta stocks sank 11.6 per cent on Friday, the benchmark's biggest one-day drop in nearly three decades, taking year-to-date losses to 40 per cent, after MSCI said it was considering shifting Indonesia to "standalone" status from its current "emerging markets" mantle.

The index provider had threatened a downgrade to "frontier" status in January because of opacity in ownership and trading behaviour but said on Friday the lack of progress in remedying those concerns meant even a downgrade to that status would not reflect the severity of the issues.

A shift to standalone status would risk cutting Southeast Asia's biggest economy off from international capital, relegate it to an investment backwater and club it with a group of standalone markets that includes Lebanon and Zimbabwe.

The more-severe-than-expected move has sharpened the focus on efforts by Jakarta to allay the long-standing concerns. On Friday, an Indonesian regulator unveiled sanctions against those linked to alleged trading manipulation in shares of three firms.

"The burden of proof has shifted: avoiding reclassification will require clear evidence that the announced reforms have been consistently implemented and materially improved market functioning," strategists at Goldman Sachs said in a note.

Goldman Sachs estimates a full MSCI removal could trigger US$5.6 billion of passive outflows. Active funds benchmarked to these indexes hold more than US$8 billion, although any selling would be discretionary rather than benchmark-driven, they wrote.

Foreign investors have net sold US$4.88 billion worth of Indonesian stocks so far this year, on track for the biggest annual outflow in at least 16 years.

Aninda Mitra, head of Asia macro and investment strategy at BNY Investments, said foreign equity exposure to Indonesia has shrunk to the point where "there may not be much more downside from here."

"But at the same time, even if there are some interesting and fundamentally sound companies and banks, attracting sufficiently large amounts of capital will be tougher in this environment," he said.

MSCI's warning raises the stakes for the government of President Prabowo Subianto, which has faced a series of setbacks this year, with Moody's and Fitch having cut their sovereign rating outlooks to negative earlier in 2026.

Investors are also fretting over the ramifications beyond the US$500 billion stock market, with the rupiah weakening to 18,000 per dollar, not far from the record low of 18,190 hit in June.

"Our bigger concern is not index-related selling itself," said Gary Tan, portfolio manager at Allspring Global Investments in Singapore, "but the potential near-term spillover into the rupiah and domestic bond yields, where market dislocation could translate into tighter financial conditions and a more meaningful impact on the real economy."