MSCI Methodology Changes

In early 2006, MSCI began a review of their methodology used to create the MSCI Global Index series. Leading to this review was the apparent discrepancy in the methodologies between the Standard Large Cap Index Series and the Small Cap Index Series. There is currently significant overlap between the MSCI Small Cap and Large Cap Indexes. Recently, MSCI announced that it will be changing the methodology beginning November of 2007 and finishing in May of 2008. These changes will be implemented in two phases to minimize market impact and transaction costs.  The modifications should result in the following features:

1. Broader and exhaustive coverage of the large and mid cap segments with a targeted coverage range of 85% of free-float adjusted market capitalization within each market segment.

2. A non-overlapping Small Cap Index Series which will seamlessly fit with the large and mid cap indexes.

3. Ability to segment size within both the developed and emerging markets (Large Cap, Mid Cap and Small Cap).

4. Ability of Growth/Value indexes for each segment of the market (Developed, Emerging and Small Cap).

MSCI's current standard methodology targets inclusion of 85% of float-adjusted market capitalization of each industry group in each country, resulting in a Multi-Cap Index. The current Small Cap Index targets inclusion of 40% of float-adjusted market capitalization of the companies in the range of $200 million to $1.5 billion in the developed markets. According to MSCI the proposed updated methodology will be a more inclusive representation of the large, mid and small cap markets. “The large and mid cap indexes will target 85% of the float-adjusted market capitalization of the investable market universe and will be combined to create the Standard Index. The Small Cap Index will target all companies with a free-float adjusted market capitalization below that of the Standard Index and up to 99% of the investable market universe.”

Another noticeable change to the methodology relates to the treatment of Europe. Under the new methodology the European countries will be divided into large/mid/small cap indexes after being grouped together in one region. This approach is different from the current methodology which considers each European country individually. For example, a company that is considered a large cap company within a single European country may now be considered a small cap company when compared in the context of all European countries.

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(Sources: Northern Trust and MSCI)

FYIPeter Mustian