Vietnam, now classified as a “frontier market” by both the U.S.’s Morgan Stanley Capital International (MSCI) and the UK’s FTSE Russell, needs to meet the higher standards of these organizations to get its status elevated to an “emerging market”, writes Can Van Luc, chief economist at Hanoi-based BIDV bank.
The stock market, as a medium- and long-term capital and investment channel for businesses and investors, is becoming increasingly important in the Vietnamese financial system. Not only domestic capital, it also allows businesses to access funds from foreign investors and lenders.
However, the ability to attract cash flow from these investors depends on their assessment of "liquidity, quality and efficiency" - the most important factors. To do this, international investors tend to rely on the evaluation of global rating organizations such as FTSE and MSCI to consider making investment decisions.
If these organizations upgrade Vietnam's status to an emerging market, the most obvious impact is that the stock market will attract larger, more stable and more diverse capital flows from foreign investors.
Normally, investment funds and fund management companies prioritize allocating a large proportion of investment to developed and emerging markets due to their high stability, diverse products, and large transaction scale compared to the frontier markets. Therefore, the upgrade to an emerging market will help Vietnam attract a large amount of medium- and long-term investment capital.
Currently, passive investment funds such as Exchange Traded Funds (ETFs) (usually focusing on emerging markets) will automatically allocate a portion of capital to upgraded markets, while only spending a maximum of 2-3% of capital on frontier markets, according to the Institute of Strategy under the Ministry of Finance.
In addition, implementing the criteria for upgrading will help reform institutions, improve the market, and push businesses and financial markets to develop. The stock market must improve many conditions such as information transparency, institutional framework, mechanisms and trading conditions. In addition, the advice and support of ratings organizations will help regulators fix limitations, thereby promoting operational efficiency.
The development of the stock market will help Vietnam's financial system develop more evenly. Businesses will have a capital mobilization channel, and investors will have a more reliable medium- and long-term investment channel, creating momentum for economic growth in general.
Ability to meet upgrade criteria
In its September 2023 ranking report, FTSE Russell, a subsidiary of the London Stock Exchange Group, placed Vietnam on a watch list for a possible reclassification to secondary emerging market status. Vietnam has remained on this list since September 2018, and has not yet met the conditions to officially become an emerging market.
According to the report, Vietnam has met seven of nine criteria to be upgraded. The country has yet to meet the ‘Settlement Cycle (DvP)’ criterion, which is currently rated as ‘Restricted’ due to the market practice of conducting a pre-trading check to ensure the availability of funds prior to trade execution. In addition, FTSE Russell stressed that Vietnam needs to improve the process for the registration of new accounts because the current process takes foreign investors a long time to open a stock trading account.
Furthermore, Vietnam does not have an efficient mechanism to facilitate trading between non-domestic investors in securities that have reached, or are approaching, their foreign ownership limit.
Basically, Vietnam meets most of the criteria for market status upgrade by FTSE Russell. Also in this report, FTSE Russell commented that although progress on the planned market reforms has remained slow, a recommitment to the work required has been made by senior levels of government, it said, adding the State Securities Commission (SSC) has demonstrated renewed energy in seeking a workable solution that would remove the need for pre-funding.
Finalization of the required roles and responsibilities, within the settlement model, that are aligned to the new legislation remains a critical next step. FTSE Russell said it will continue to encourage the Vietnam market authorities to provide clearer guidance on the steps and timeframe for implementation.
With such assessments, FTSE Russell will keep Vietnam on the watch list as a frontier market and reviewed for possible reclassification as a secondary emerging market within the FTSE Equity Country Classification scheme at the Interim Review in March 2024. This shows that the actions of the government and the SSC have had positive impacts. Previously, in its March 2023 report, FTSE Russell considered removing Vietnam from the watch list if there was no market reform roadmap before September 2023.
During MSCI's June 2023 review, Vietnam's stock market was not included in the watch list for upgrading to emerging market status. MSCI took a less positive view, saying that the foreign ownership limit is affecting more than 10% of stocks in the Vietnamese market.
It outlined nine criteria that Vietnam's stock market had not met, including the foreign ownership limit (FOL) level, foreign "room" level, equal rights for foreign investors, foreign exchange market liberalization level, information flow, clearing and settlement, possibility of off-exchange transactions, stock lending, and short selling. These nine criteria were also mentioned in its June 2021 and June 2022 reports, showing that Vietnam has not made any improvement to satisfy MSCI's requirements in the past two years.
MSCI's report also pointed out two criteria that need improvement: registry and market regulations. Currently, investors are required to register transactions, and opening an account requires approval from the Securities Depository Center. Many legal documents related to the stock market do not have English versions to facilitate foreign investors’ access.
Solution to market status upgrade
To realize the government's goal of upgrading the stock market before 2025 under the project "Restructuring the stock market and insurance market to 2020 with orientation to 2025" approved by the Prime Minister on February 28, 2019, regulators need to address the issues mentioned above. Especially with the FTSE Russell's criteria, Vietnam may be removed from the watch list for a possible reclassification from frontier to secondary emerging market status if it fails to come up with market reform solutions.
If this happens, it would be very regrettable, because the Vietnamese market has been on the watch list since September 2018, and currently there are only two criteria yet to be met. Therefore, in the last months of 2023 and 2024, Vietnam needs to focus on solving the pre-funding issue, most importantly removing the requirement that investors must have money available at the time of order placing in accordance with the Ministry of Finance’s Circular 120/2020/TT-BTC, and instead requiring money at the time of receiving shares (T+2) as in developed markets. This needs to be completed in 2024 (FTSE releases its reports in March and September each year). At that time, Vietnam could fulfill its market status upgrade goal.
Meeting MSCI's upgrade criteria will be much more difficult, because Vietnam still has many criteria that need to be improved. In the short term, in addition to handling the pre-funding issue, a number of other solutions need to be taken early. Regulations and legal documents on the stock market need to be published in English so that foreign investors can easily access them. There should be regulations requiring listed enterprises to disclose information and financial reports in English. Listed enterprises must comply with the International Financial Reporting Standards (IFRS) and the Ministry of Finance also needs to have specific instructions and roadmaps to meet them.
Vietnam should develop clearing and settlement infrastructure; soon deploy overdraft and cash advance services; and improve transferability through reducing procedures with off-exchange transactions and in-kind transfers requiring prior approval from the State Securities Commission. It is necessary to research and early deploy products and services such as stock lending and short selling in the Vietnamese market.
These solutions will partly satisfy the yet-to-be-met criteria. However, meeting those most concerned by MSCI such as FOL level, foreign 'room' level, and foreign exchange market liberalization level will face more difficulties because they relate to legal regulations and will create many changes in regulators’ macroeconomic management and integration perspectives. Therefore, realizing the goal of upgrading the stock market to "emerging" status will depend greatly on the determination of the Party, State and relevant ministries.
Regarding FOL, under the government’s Decree 155/2020/NĐ-CP dated December 31, 2020, the FOL level in Vietnam is implemented in line with international treaties to which Vietnam is a member, the regulations of each specific industry, and regulations on the list of industries with limited market access for foreign investors. In case there is no specific regulation, the maximum FOL level in a listed company is 50% of charter capital. In other cases, the level is unlimited. In addition, in case the company operates in multiple industries and fields, and has different regulations on FOL, it will not exceed the lowest level in the regulations.
It can be determined that the problem will lie in industries with FOL regulations and industries in the list of restricted market access, because in other cases, the level follows international practices or there are no restrictions. Therefore, to solve this problem, Vietnam will need to change regulations for each industry, as well as review the list of industries that limit foreign investors’ market access. As this is a sensitive issue, it will require impact assessment, as well as determination from authorities at all levels, especially the government and relevant ministries.
Regarding the foreign exchange market liberalization, according to MSCI's assessments, this standard (as in developed markets) features a freely/fully convertible currency, which includes an active offshore currency market. These are factors that Vietnam has not met as VND is not a freely convertible currency because payment transactions and foreign currency transfers to, from or within Vietnam are all controlled. The exchange of VND for other currencies and vice versa is not easy and often made through a "third" foreign currency. As a result, payment arrangements and M&A transactions can be more complex than in countries with less foreign exchange controls. The lack of an offshore currency market also makes it difficult for foreign investors to convert from VND to other currencies.
To solve these problems, Vietnam needs to streamline related legal documents, such as the Standing Committee of the 13th National Assembly’s Ordinance No.06/2013/UBTVQH13 dated March 18, 2013 on foreign exchange and the government’s Decree 70/2014/ND-CP dated July 17, 2014 detailing the implementation of several provisions of the Ordinance on Foreign Exchange, towards minimizing regulations and restrictions on foreign exchange transactions, and money transfers from/to Vietnam.
Regarding the implementation roadmap, with the government's goal of a market status upgrade before 2025, the majority of the above solutions need to be completed in 2024 to serve MSCI's evaluation and ranking of the Vietnamese market (MSCI releases its annual ranking report in June).
Finally, to do this will require the engagement, determination and companionship of authorities at all levels, especially the government and relevant ministries, along with the effective implementation of self-governing organizations, businesses and investors.
In order to contribute to raising awareness and action of market players on upgrading Vietnam's stock market, and propose solutions to accelerate the upgrade, Nhadautu.vn/TheInvestor.vn will organize a conference titled “Vietnam stock market: Status upgrade and transparency in listed firms' information disclosure” at JW Marriott Hanoi hotel, Hanoi on Tuesday, October 10.
The event is expected to see the participation of officials from the State Securities Commission, ministries, the Party Central Committee’s Economic Commission, the National Assembly’s Economic and Financial-Budget Committees, experts, and representatives of auditing firms and investment fund management firms.