Business
August 20, 1999
MARKET PLACE
By MARK LANDLER
HONG KONG -- There is no shortage of explanations for why Asia’s stock markets have popped up and down like targets in a carnival shooting gallery over the last week.
Taiwan and China are turning up the volume in their heated war of words. North Korea is developing missiles that could threaten Japan or South Korea. Ethnic strife is on the rise in politically tense Indonesia.
As it happens, though, none of these flashpoints caused the bumpy ride in Asia’s markets. Instead, shareholders from Seoul to Singapore were thrown into a tizzy by a team of anonymous number-crunchers, in Geneva, who made changes in a closely watched Asian stock index.
That a stock index could exert so much influence across so many markets says a lot about the changing nature of investing -- and the herd mentality of investors as they venture back into recession ravaged Asia.
"It's very hard to find people who think independently about how to invest in Asia," said Mac Overton, a former fund manager in Hong Kong. "They are terrified about underperforming the benchmark."
The benchmark of choice here is the MSCL which stands for Morgan Stanley Capital International. From its offices in Geneva, this subsidiary of Morgan Stanley Dean Witter calculates 3,000 stock indexes a day, covering 24,000 stocks in 51 countries. It bundles these country indexes into regional indexes. Analysts say
Morgan Stanley's Asian indexes are by far its most influential.
On Aug. 12, Morgan Stanley announced it would reinstate Malaysia in two of those indexes, the
All-Country Far East Free and Emerging Markets Free indexes, as of next February. It had dropped
Malaysia last September when Prime Minister Mahathir Mohamad imposed controls on Malaysia's currency market.
Morgan Stanley also said it would adjust its portfolios to double the weighting of Taiwan - a nod to the greater openness of Taiwan’s markets. To restore Malaysia and bolster Taiwan, Morgan Stanley will reduce the relative weighting of other Asian countries in the indexes.
That could be crucial to how much foreign investment flows to these countries. A growing number of overseas finds use these indexes to judge their own performances. When Morgan Stanley changes the weighting of various countries, fund managers rush to align their own portfolios.
Not surprisingly, the news had a drastic effect on the markets. Stock exchanges in Malaysia and Taiwan soared, while other markets, like Hong Kong and Singapore, swooned. When Morgan Stanley announced a later adjustment that could lift Singapore's weighting, Singapore bounced back.
The changes are likely to have the most lasting impact on Malaysia,, which has been spurned by foreign investors since Mahathir effectively dug a moat around the country's capital and currency markets.
"Ifs a very symbolic step for us," said Razak Baginda, the executive director of the Malaysian Strategic
Research Center, a research firm in Kuala Lumpur. "Having been seen as a pariah state, the Morgan Stanley listing signifies that we are once again a legitimate place to invest."

Executives at Morgan Stanley Capital International said they were well aware of the influence they wield.
They seemed the slightest bit sheepish about the market tumult they set off over the last week.
"It's not our business, strangely enough, to move markets," said John Fildes, the executive director of
Morgan Stanley Capital International in Hong Kong. "We aim to be a lagging indicator, not a leading indicator."
Stock indexes are popular in Asia for the same reason they became popular in the United States and Europe.
Funds that manage billions of dollars for endowments and pension funds want benchmarks against which to measure their performance. Some funds are bound by their charters not to invest in stocks or countries that are excluded from these indexes.
But Fildes said stock indexes have become even more influential here in the aftermath of the regional economic crisis. Burned by the spectacular market meltdowns in South Korea, Thailand and Indonesia, fund managers are counting on indexes as a way to hedge their bets.
"When the Asian tigers were generating high returns, people were not so reliant on the benchmark," Fildes said. "But the volatility of the last two years has made people much more careful."
In effect, fund managers are substituting the research and analysis of Morgan Stanley for their own judgment. Given Morgan Stanley's vast influence, it is no surprise that its changes have drawn criticism.
Several experts said it was premature to restore Malaysia to the index, since it was not clear whether the government would fully eliminate capital controls after they expire on Sept. 1. Officials in Malaysia have said they are unlikely to allow its currency, the ringgit, to trade freely.
In Taiwan’s case, some fund managers said Morgan Stanley should have treated the escalating tensions with
China as a disincentive. Others noted that while Taiwan’s government has loosened some restrictions, like foreign ownership of local, companies, it stiff routinely restricts capital flows..
The changes in the Morgan Stanley index have led to some dubious investment decisions, according to Bill
Kaye, the senior managing director of the Pacific Group, a hedge fund in Hong Kong. He noted that the
Taiwan market had risen by more than 8 percent since last week despite the fact that Taiwan and China may be edging close to an armed conflict.
"There is no intelligent basis for that kind of investment whatsoever," Kaye said. "It's absolutely byzantine."
Fildes has spent the last week responding to these criticisms. He noted that Morgan Stanley left open the possibility that it would not phase out capital controls. As for Taiwan, "political risk is something for a fund reinstate Malaysia if the government did not phase out capital manager to decide about," he said.
Still, as Fildes acknowledged somewhat wearily, "Any changes in the indexes can be emotive."