The true beauty of trading lays in its boundless possibilities. From a wide variety of tradable assets to tools, strategies, techniques and creative solutions: there are just so many options. Trader’s job is to consider every available solution and pick the one that works. And our job is to provide as much info as possible to make sure you’re educated on every existing aspect of modern trading.
Today we are diving into the idea of investing in MSCI indices. You will discover what MSCI index stands for, how it works and how it can be beneficial for all types of traders across the market. We will cover everything you need to know before you invest in MSCI index, including the detailed breakdown of ETF trading.
MSCI Index Explained
Let’s start at the very beginning. MSCI is an abbreviation for Morgan Stanley Capital International. For those who don’t know, Morgan Stanley is an American investment bank and financial services firm based in New York City. Morgan Stanley is recognized in the trading community as a creator of the first computer model for financial analysis of the market. Using the technology as well as their expansive network of worldwide financial institutions they posted their first MSCI indices in 1968. This was the first time when international indices were featured on the American trading scene.
So what is the MSCI index? MSCI index is used to measure collective performance of groups of stocks. It works like this: stocks are selected by their equity index values and then summed up under one general index. There are several specifications involved in the selection process. The selected stocks must be highly liquid and easy to trade, meaning that there are few to none restrictions on trading them. Then, the number of including stocks should be enough to correctly represent an underlying market, but at the same time not too much so the index can be successfully copied.
The value of each stock is determined by its market capitalization, which is calculated by the price multiplied by the amount of outstanding shares. The same technique is used by another popular index grouping, the S&P 500. The market capitalization can be expressed in USD or in any other currency, depending on the location and is used to judge performance of indices without any impact from exchange rates.
There is also a lot of revision involved in the index postings. Every index gets updated on a daily basis, Monday through Friday (as we know, trading is not available over the weekend at most markets). Additionally, there are quarter reviews and twice-a-year rebalancing sessions. All of these measures are taken in order to make sure that index precisely represents the underlying market, and therefore can be a solid foundation for mutual funds and exchange-traded funds (ETFs), which we will discuss further on.
All of the above brings us to the first conclusion: MSCI Index revisions can significantly shift the market. As ETFs and mutual funds closely observe the MSCI, they are obligated to operate with all the listed stocks. This way, when a new stock is added, it tends to rise in value due to an escalated volume of long positions, while dropping from MSCI will reflect on the stock’s price in the opposite way.
Now, before we go into the technicalities of how to invest in the MSCI index, let’s go over some of the popular MSCI indices to get a better understanding of what dealing with them will be like.
The Most Popular MSCI Indices
MSCI indices are divided in a broad number of sub-segments that categorize indices by region, industry or level of capitalization (small-cap, mid-cap and large-cap). However, the most recognized and popular MSCI indices track the following four categories: emerging markets, frontier markets, developed markets (minus the US and Canada) and the world market.
We are going to briefly zoom in to each of these categories to get a better view of how they might behave.
MSCI Emerging Markets Index
Emerging markets are perhaps the most exciting category for investors across the globe. Economies that go through a process of emerging often carry a high level of potential. But at the same time there is a certain percentage of challenge, associated with unstable politics and hard-to-predict economy courses.This makes investing in emerging markets both tricky and rewarding. MSCI launched their first emerging market index back in 1988 and as of today it overlooks the performance of stocks in 26 countries spread out over five regions.
The convenience of investing in MSCI indices is that you don’t need to perform complicated research on your own. Analytical team over at Morgan Stanley is doing an amazing job at gathering high-quality data as well as providing insightful advice on such aspects as risk management, portfolio diversification and more. However, it is still advised to keep learning more and more about the counties included in the index you choose to trade with, to ensure you make the right decisions during trading.
Some of the largest shares in the MSCI emerging markets index are contributed by China, Korea, Taiwan, India, Brazil, South Africa, Russia, Mexico and Thailand. Currently, the emerging markets are representing approximately 13% of the global market and have over $1.7 trillion invested in them.
MSCI Frontier Markets Index
The frontier markets index is one stage above the emerging due to high volatility. This volatility is caused by a significant presence of overall doubt: since the frontier markets are between the emerging and developed, there is a chance for them to go either way.
MSCI launched the frontier market index in 2007 and there are currently 21 countries under it, including: Croatia, Estonia, Lithuania, Kenya, Mauritius, Morocco, Bahrain, Jordan and Bangladesh. There is also a sub-category of 11 standalone frontier markets that are not included in the general index. These include Jamaica, Panama, Iceland, Ukraine, Botswana and Palestine.
Once again, frontier markets hold a lot of profit potential. The amount of growth room for each of the countries included as well as their international economy policies can become a great asset for anyone who invests. However, there is a risk of not being able to sell in case the economy weakens. That’s why traders who are looking to invest in the MSCI index for frontier markets should have a good understanding of local economies and politics.
MSCI Developed Markets Index (EAFE)
The term developed markets is pretty self-explanatory: countries that made it into this category are for the most part economically stable and promising for investors. EAFE stands for Europe, Australia and the Far East. As previously mentioned, the United States of America and Canada are not included under this index, although they’re considered developed.
Developed markets index counts in 21 countries, including France, Germany, United Kingdom and Japan. In every country the index covers approximately 85% of overall market capitalization, which makes it a great indicator of local economies’ health.
MSCI World Index
This index is often used to describe the overall state of the world’s market, as it includes 4,500 companies with global presence from 23 countries. The companies accounted for under this index are mid and large-cap, they also do not include any companies from emerging companies. This fact technically puts the world index into the developed category.
Just like the developed market index, the world index covers 85% of capitalization in each country. The countries that feature companies under the index are: Australia, Austria, Belgium, Canada, Denmark, Finland, France, Germany, Hong Kong, Ireland, Israel, Italy, Japan, Netherlands, New Zealand, Norway, Portugal, Singapore, Spain, Sweden, Switzerland, United Kingdom, and the United States.
63% of the world index is contributed by the United States of America. The companies under the index include giants like Apple, Microsoft Corp, Amazon.com, Facebook and Alphabet (categories A and C). So, instead of trading their shares individually, traders have an option to benefit from the overall performance calculated by MSCI.
At this point you have a good understanding of each category of popular MSCI indices. This means we can finally get technical and talk about how to invest in the MSCI index using ETFs.
What Are ETFs In Trading?
ETFs is an abbreviation for exchange traded funds and although they operate similarly to mutual funds, they can be traded like stocks. ETFs are essentially financial securities, and they entered the trading scene rather recently, in 1993. Back in the 90s ETFs were not as popular, however today they are a very common instrument of choice for both corporate and individual traders.
The most straightforward way to grasp the concept of ETF is to imagine a container, capable of holding various assets. It can be a combination of stocks, such as MSCI indices or S&P 500, bonds, and other assets, sometimes just one asset like Bitcoin, for instance.
ETF trading allows participants to take a more general approach. Using that strategy, traders can significantly reduce their stress levels of poorly performing individual shares, as the only value holding meaning to them is going to be an average. And at the same time the trades can involve a gathering of assets from a specific region, industry or category. This can be helpful for traders who have personal interest or insight on niche fields.
Having an opportunity to spread your interest over multiple assets using one single tool can be a great risk prevention technique. While regular portfolio diversification involves the need to constantly keep an eye on the performance of each instrument you’ve invested in, holding on to ETF’s requires significantly less effort.
There is virtually no downside to trading ETFs, but there are still some aspects you should consider before you invest in MSCI index using exchange-traded funds. So, next we will compare the most noteworthy advantages and disadvantages of ETF trading.
The Pros And Cons of ETF Trading
Just like any other trading instrument out there, ETFs come with their own set of upsides and downsides. While we have already learned about the general usefulness, it would still make sense to talk about specific pros and cons of exchange-traded funds. Let’s start by summarizing what’s good about the ETF trading.
Pros:
Diverse. We’ve already mentioned it a couple of times, but diversity is one of the main advantages of trading ETFs. Virtually any asset or group of assets can be traded this way, which gives a lot of room to experience new possibilities. Through one single ETF you can access hundreds of assets, which can significantly rise your chance of success.
Balanced. Considering there are several assets in one ETF, we can also conclude that the ultimate value is going to be judged by the average. So, if one or two assets under the hood went bearish, but others are confidently bullish, a trader has nothing to worry about.
Easy. For pretty much the same reason, trading ETFs is relatively easy. Because all assets are gathered together, the analysis and research also narrow down. This can be very time efficient for traders, who have other personal and professional commitments other than trading.
Manageable. ETFs can be traded using market orders, such as stop loss and take profit. These orders are set up to activate automatically, when the price reaches a certain point at either direction. Making sure you are in control of all the risks you take can significantly lower stress rate and help you keep seeing the situation clearly.
Low cost. ETF trading is also very affordable with most brokers. As for the cost of actual management of exchange-traded funds it’s also way lower than, for instance, mutual fund management costs. The majority of ETFs cost less than a quarter percent from the invested amount to be managed.
Tax efficient. For those traders who are concerned about taxes from their gains, ETFs are a good solution. Because of the difference in structure between mutual funds and exchange-traded funds, the latter are considered more tax efficient.
Cons:
Narrow focus. Because ETFs are often specialized on the same category of assets from the same niche, the swings in their price might be wider than in larger-focus indices. Although this is not necessarily a bad thing, it does require a certain level of knowledge from the trader as well as ideal attention to detail.
Uneven profit. The profit balance that is caused by averaging of all prices within the ETF can also be looked at from another side. While operating with an average value is reducing risk and making positive outcomes more possible, it can also visibly reduce the profit’s amount. This way when bearish assets went too far south, it can eat into the beneficial impact of the bullish ones.
Too tempting. The upsides of ETF trading make it nearly irresistible for traders. Market novices as well as experts with weak self-discipline skills can easily get caught up in the moment and go further than planned. That’s why it is crucial for anyone who wants to become a successful trader to master control over emotions.
Costs adding up. The costs are low, but even the small amounts can add up into a big one. When trades are too frequent, eventually the cost charge will become very noticeable. A great solution for this is to strategize in advance, by establishing how many trades you are planning to make and calculating the total cost prior to actual trading.
As you can see, there are both strong and weak points to ETF trading. But the good news is: every downside has an answer. Most obstacles out there can be resolved with the correct approach and just the right amount of skill. Now, let’s discuss the technicalities of how to invest in the MSCI index using ETFs.
How To Invest In The MSCI Index Using ETFs
Interestingly enough, this section is the least complicated of all, because investing in the MSCI index is just like investing in any other asset out there. Your main task is research. First of all you will need to make sure that the type of trading you selected fits you.
This process will include evaluating your current knowledge and skills as well as resources available for trading. It is generally advised to start with instruments you understand completely. This can be one single asset or several assets, the important part is that you have zero confusion about how they work.
Continue with finding a broker who can give you access to the most advanced tools and techniques. Trustworthy and resourceful broker can practically guarantee a successful trading journey, provided you also do your part. A broker you will want to look for will have the following characteristics:
Has been in business for over a decade. This shows that the team is familiar with all types of scenarios and have been constantly evolving, which means they’ll keep going in the same direction.
Caters to traders worldwide. Global brokers have several advantages over those tied to specific countries. For a trader these advantages are: minimum restrictions, unlimited choice of instruments, multilingual support team.
Offers the best tools. You know you are in good hands when a broker not only gives free access to a Metatrader 4 platform, but also guides you through the set up process. Same goes for any other technological tool you might want to use during trading: it has to be free and there should be someone to help you operate it.
Give you an ability to practice. Getting access to a demo trading account at no charge can be a great asset to all traders across the market. Whether you are trying to build confidence, test trading techniques or develop your own strategy, the best place to do so is in the simulation mode.
Provides multiple analytical channels. Analysis of the market is the foundation of successful trading. How else would you know you are making the right decision? But many traders are not experienced enough, or simply don’t have enough spare time to perform their own analysis. That’s where it can be very handy to receive a professional insight from your broker’s team.
After you have the right broker on your side, open a trading account and get started. Depending on the instrument you are looking to trade with, you’ll be given specific instructions on how to set up your trading terminal. From there it’s as simple as day: purchase an asset and adopt a trading strategy to benefit from fluctuations in its value.
To help you make your first steps in MSCI index trading, we are going to go over some of the idea sources for anyone who wants to invest in MSCI index.
Where To Source MSCI Index Trading Ideas
There are several approaches to making trading-related decisions. When it comes to MSCI ETF trading, the very first solution would be to master technical analysis. Technicalists are traders who look at the price value data from different angles by exploring the past and current movements on the chart. By doing this and extracting specific pieces of information they are then able to predict upcoming price values and benefit from them.
As previously mentioned, a trader has two choices: to do their own analysis or to look for an established source that constantly provides trading ideas (also known as signals) for any chosen instrument. It goes without saying that such a source has to be entirely trustworthy and reliable. Once again, the best option might be to check with your broker if they offer trading signals for the asset you have in mind.
Another type of analysis is called fundamental. The fundamental analysis focuses on factors that led to the change in any asset’s price. For example, at the start of COVID-19 pandemic in early 2020, more people signed up for streaming services such as Netflix. This led to Netflix’s value rising and it’s stock going up. On the other hand, companies who struggled from the loss of customers during self-isolation dropped in value.
But a global virus isn’t something that happens a lot, that’s why this is just an example. Virtually everything has an effect on the market, and getting familiar with which factors influence your preferred trading instrument can help a lot. By knowing how the price is going to react to certain events, you will build better strategies and gain higher profits.
