MSCI Market Classification: Korean Stocks Within Sight of Developed Market Inclusion

There is keen interest in whether MSCI, the global stock index provider, will include the Korean stock market on its 'country on watch list' for potential reclassification from emerging to developed market status in its June annual market classification review. Although the market capitalization of Korean stocks has reached the world's sixth largest, it has been classified as an emerging market alongside countries like India and Brazil, leading to criticism that it is undervalued compared to its international standing. Inclusion in the MSCI developed market index could attract over 54 trillion won (approximately $40 billion USD) in foreign capital, serving as a crucial catalyst in resolving the 'Korea discount'.

Korea was first added to the watch list in 2008 but was removed from the list in 2014 due to difficulties with Korean Won currency exchange and limited access to exchange data. It has since faced challenges in being included in developed markets for 11 years. The government has continuously made efforts for inclusion, including sending a delegation to the MSCI Hong Kong office in 2015, extending foreign exchange market trading hours in 2016, and abolishing the foreign investor registration system (IRC) and fully banning short selling in 2023.

The government plans to operate won-dollar foreign exchange transactions in a '24-hour uninterrupted manner' starting July 6, 2025. Additionally, starting next year, it will implement an 'offshore won settlement system' allowing foreign financial institutions to hold won accounts in Korea and manage won directly. Restrictions on who can open consolidated foreign investor accounts have also been abolished.

Lee Kyeong-soo, an analyst at Hana Securities, analyzed that Korea has a probability of over 60% for a positive outcome in the market accessibility review related to MSCI developed index inclusion. While foreign exchange market liberalization is not yet at a fully implemented level, the introduction of the offshore won settlement institution system and the planned opening of the 24-hour foreign exchange market in July suggest a possibility of an upgraded evaluation. The resolution of issues related to short selling freedom, improvements in English-language and dividend disclosures, and an expected increase in consolidated foreign investor accounts were also cited as positive factors. Kim Jong-young, an analyst at NH Investment & Securities, stated that as the foreign exchange market improvements were the biggest hurdle for MSCI developed index entry, the possibility of inclusion increases if these systems are successfully established.

However, cautious views persist. Most of the improvement measures are either just before implementation or in the early stages, making it likely that a monitoring stance will be maintained this year. MSCI stated in last year's annual market classification review its principle that 'all contentious issues must be resolved, market reforms must be fully implemented, and market participants must be given sufficient time to assess the impact of the changes.' Specifically, it was pointed out that the opening date for the 24-hour foreign exchange market (July 6) is after the MSCI review announcement date, and the offshore won settlement network is scheduled to go live next year, making it difficult to be recognized as an infrastructure immediately. Choi Ji-woon, a research fellow at the Korea Capital Market Institute, emphasized MSCI's principle that reclassification discussions begin 'when all issues are resolved, reforms are fully implemented, and market participants are given sufficient time to evaluate the effects of the changes.'

JP Morgan analyzed that while the inclusion of the Korean stock market on the watch list might have a limited impact on the KOSPI, full inclusion as a developed market could negatively affect capital flows. This suggests that upon inclusion in the developed market index, the speed of capital inflow may slow down, and existing emerging market investment funds could potentially flow out.