The proportion of freely traded shares is the lowest in the Asia-Pacific! MSCI will review Indonesia's stock market, which may lead to a $2 billion outflow from the "largest stock market in Southeast Asia".

The proportion of freely traded shares is the lowest in the Asia-Pacific! MSCI will review Indonesia's stock market, which may lead to a $2 billion outflow from the "largest stock market in Southeast Asia".

MSCI is considering tightening the definition of free float shares, and this adjustment in index compilation methodology may trigger more than $2 billion in capital outflows from the Indonesian stock market. The index provider will decide by the end of January whether to implement the new rules; any approved changes will take effect in the May review and could have far-reaching effects on Southeast Asia’s largest stock market, which has a market capitalization of $971 billion.

According to a Bloomberg report on the 20th, the Indonesian stock market already faces the lowest average free float ratio in the Asia-Pacific region. If MSCI finds that the actual tradable shares of Indonesian companies are lower than reported, passive investors will be forced to sell their existing holdings. This decision will be one of the most significant events for the Indonesian stock market in years, directly influencing capital flows and investor confidence.

The biggest impact will be felt by leading companies in the country and region, including PT Petrindo Jaya Kreasi, 84% owned by billionaire Prajogo Pangestu, and PT Barito Pacific, 71% owned by him. Gary Tan, portfolio manager at Allspring Global Investments, said that this review is a key test of Indonesia’s capital market reform agenda and highlights the corporate governance improvements needed to attract more international funds.

Low free float ratios have become a pain point for the Indonesian market. Many heavyweights in the Jakarta Composite Index are controlled by a small number of tycoons, resulting in thin trading. Last year, the index soared by over 22% to a record high, while the MSCI Indonesia Index fell by 3%, resulting in the largest divergence ever.

A tighter free float definition will accelerate capital outflows

MSCI’s proposed new rules will calculate free float based on the lower amount in public filings or new data sets. They predict this will reduce the free float market cap of 15 constituent stocks, leading to capital outflows. Several brokerages, including PT Samuel Sekuritas Indonesia, estimate that if the new measures take effect, foreign passive fund outflows will reach about $2 billion.

More than 200 stocks in the Indonesian benchmark index have a free float ratio below 15%. According to Bloomberg data, the Indonesian benchmark index has the lowest average free float among major Asia-Pacific indices. Nirgunan Tiruchelvam, an analyst at Aletheia Capital, describes low-free-float stocks as “museum pieces: you can look, but you can’t buy enough.”

MSCI noted in its September consultation document that Indonesia’s opaque and intricate web of business ties makes it difficult to identify strategic holders. Currently, the Indonesia Stock Exchange only requires companies to disclose shareholders with stakes exceeding 5%, while new data providers can identify the types of shareholders with less than 5% holdings in electronically traded shares, thereby presenting a clearer picture of the real free float situation.

Regulatory reform faces structural obstacles

Regulators have tried to alleviate concerns by raising minimum free float requirements, planning to increase the threshold from the current 7.5% to 10%-15%, with a long-term goal of 25%, but no timeline has been set. By contrast, Hong Kong and India’s requirement is 25%, while Thailand’s is 15%.

The reform faces numerous obstacles. Indonesia’s tax rules allow individuals and firms to be exempt from income tax when reinvesting dividends for at least three years, which encourages more corporate holdings—the very type MSCI wants to exclude from free float calculations, because it obscures the actual number of shares in public hands.

Christopher Andre Benas, Head of Research at PT BCA Sekuritas, notes that even if companies increase the number of tradable shares, the market still needs more liquidity to absorb new stocks, but that liquidity may not materialize in the end, as institutional investors remain selective and retail investors lack sufficient funds to absorb the remainder.

Investors weigh reform pressures against growth potential

Despite outflow pressures, some investors believe that the long-term growth potential of the Indonesian market remains attractive. Dimas Yusuf, Chief Investment Officer of PT Sucorinvest Asset Management, said: "Given the long-term appreciation potential of Indonesian stocks, they are too attractive for index providers to keep lowering their weights."

The index bifurcation caused by low free float ratios has taken its toll on fund managers. Because many constituents in the Jakarta Composite Index trade thinly, fund managers say the benchmark is virtually untrackable, prompting them to shift to the stricter MSCI Indonesia Index. Investors expect that lowering free float data and weights for Indonesian companies will only widen, not narrow, this divergence.

Financial regulators are also preparing stricter rules for small companies listing. In an email statement, MSCI said the potential changes provide “extra transparency” and help bridge the “information gap.” This decision will test whether Indonesia can unlock greater international investment potential through corporate governance reforms.

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