This article first appeared in Capital, The Edge Malaysia Weekly on April 20, 2026 - April 26, 2026

A proposal to expand the number of FTSE Bursa Malaysia Kuala Lumpur Composite Index (FBM KLCI) constituents from 30 to 50 has prompted a deeper examination of the benchmark’s structure, raising questions over whether broader representation can be achieved without compromising quality, stability and investor perception.

Bursa Malaysia, together with index provider FTSE Russell, says the proposal is in response to persistent sector concentration, with financials and utilities dominating the benchmark.

Expanding the index increases market capitalisation coverage from about 60% to 70%, while reducing the weight of financials to 36.5% from 42.3%, and utilities to 13.4% from 15.3%.

In turn, sectors such as technology, energy, real estate, industrials and consumer discretionary now have greater representation, aligning the index more closely with the broader economy.

The proposal also introduces an optional 10% company-level cap, in line with Securities Commission Malaysia’s diversification guidelines that limit exposure to a single issuer.

Proponents of this move believe it will strengthen the benchmark by reducing concentration risk.

Critics, however, say the current 30-stock structure already functions as a self-regulating mechanism, where sustained earnings growth drives market capitalisation and secures index inclusion.

They argue that widening the basket risks admitting “mid-table” companies with less resilient earnings, potentially inflating valuations through passive inflows tied to index inclusion.

New Paradigm Securities head of research Ben Shane Lim says the proposal identifies weaknesses in the current index but may not address their root causes.

“The proposal draws attention to some key shortcomings of the current FBM KLCI, which is a good first step,” he says, pointing to heavy bank weightings, limited diversity and the presence of under-covered stocks.

He argues, however, that expanding the number of constituents risks treating the symptoms rather than underlying issues.

“I do not think proposed expansion of the FBM KLCI addresses the root causes — a lack of large, liquid, quality companies that represent the full breadth of the Malaysian economy.”

He says if the benchmark has to be tweaked, tightening liquidity screening and weightage caps would be preferable to expanding the index.

Among the challenges is the sheer size of the large caps and the arithmetic working against the proposal.

While the additional 20 stocks make up 40% of the enlarged index by number, they account for only about 16% of the enlarged index market cap, Lim points out.

“The weightage of these additional stocks is small in aggregate and insignificant individually. Currently, the 30th stock on the index only has a weightage of under 0.7%,” he says, raising doubts about how much real diversification the expansion delivers.

At the same time, these stocks have a different earnings and valuation profile.

On a trailing basis, the “next 20” trade at a price-earnings ratio (PER) of about 23 times, compared with around 17 times for existing constituents, despite contributing less to overall earnings.

This imbalance, Lim suggests, could complicate the index’s valuation narrative without materially improving its breadth.

More significantly, he highlights the instability inherent in the mid-cap segment.

Over the past three years, his back-testing shows 47 stocks rotating in and out of contention for the “next 20” slots, underscoring how expansion could institutionalise churn, rather than stability.

Such churn increases trading activity and costs for funds tracking the index, while reducing the stability traditionally associated with the FBM KLCI.

For Lim, the broader issue lies in market structure.

“A key challenge for our index is that it does not adequately represent the breadth and dynamism of the Malaysian economy,” he says, citing the absence of semiconductor exposure as a key gap.

He recommends a bottom-up approach instead. “This needs to be addressed bottom-up, rather than through expanding the index,” he says, pointing to measures such as encouraging the listings of larger, earnings-accretive companies and promoting consolidation within sectors.

“Ultimately, benchmarking creates a self-reinforcing cycle. Funds tracking the KLCI — including ETFs (exchange traded funds) and passive mandates — must buy and hold its constituents, regardless of whether valuations are justified.

“The need to benchmark also means illiquid index staples’ valuations are bid up, perhaps to unhealthy levels. This further entrenches their position within the index and precludes other stocks from getting in.”

Tradeview Capital chief investment officer Nixon Wong frames the debate in more philosophical terms, focusing on what the FBM KLCI is meant to represent.

“While inclusion is technically driven by market cap and liquidity, the build-up behind the inclusion comes from companies with a sustained earnings quality that attracts higher investor confidence … So we can see the quality bias here,” Wong tells The Edge.

This quality bias, he reasons, is central to the FBM KLCI’s identity and could be diluted by expansion.

“You inevitably pull in second-liner large caps … that may not show the same durability of earnings like the first 30.”

Wong adds that the FBM KLCI’s valuation premium is partly a function of scarcity.

“Historically, the valuation premium on FBM KLCI components comes from concentrated passive flows and also higher valuation for quality names,” he says, warning that increasing the number of constituents could dilute this effect.

The result is likely to be subtle but meaningful, he says.

“There will be compression on valuation and some shift in investors’ perception on FBM KLCI quality,” he adds, describing the risk as “nuanced”.

Wong is of the opinion that the the expansion is unnecessary given other forms of tracking from other indices. He argues that strong companies naturally rise into the benchmark without structural changes.

“If the tech name is good, it naturally climbs up the ladder for inclusion anyway.”

Operationally, he warns of higher costs and lower efficiency — “the key trade-off lies in breadth versus stability” — and notes that a larger index increases turnover and frictional costs for passive managers.

Kenanga Investment Bank head of research Peter Kong says while expanding the FBM KLCI will result in trade-offs, they will be manageable.

His analysis indicates that the “next 20” stocks do not stack up against the current KLCI constituents on profitability-to-valuation metrics. They tend to trade at higher price-to-book multiples for comparable return-on-equity levels. In a way, investors are paying more for the same level of returns.

They are also mildly dilutive to the index’s dividend appeal, as the “next 20” offer an average yield of about 3.7%, compared with 4.3% for the existing FBM KLCI.

From a liquidity standpoint, the gap is also evident.

Most stocks that fall within the low bid-ask spread — generally below 0.4% of share price — and the low-volatility quadrant are predominantly existing FBM KLCI constituents, with only a small proportion in the “next 20”.

Kong says, however, that this also presents upside.

“Entry into an expanded FBM KLCI could act as a catalyst to improve trading liquidity for these mid-cap names, narrowing spreads and enhancing their investability.”

Despite these trade-offs, Kong supports the expansion, saying it improves the index’s representativeness by better reflecting sectors such as industrials, property and technology, while reducing the relative dominance of financials and utilities.

His analysis shows that these additional sectors have a low correlation of below 0.5 with financials, suggesting they do not move in tandem.

This supports the case for greater diversification, while implying that sector allocation will play a more important role in driving performance.

Kong also backs the proposal to introduce a 10% cap on individual constituents, as concentration risk in the FBM KLCI has increased over time.

Over the past five years, the top four stocks — three of which are banks — have seen their combined weight rise from 35% to 44% of the index.

A cap could trigger rebalancing, reduce the dominance of large-cap banks and shift attention towards mid-tier financial institutions, he says.

“Ultimately, we are for the expansion. The quality trade-off is small, and with improved coverage of 70%, the FBM KLCI is better positioned versus Indonesia’s LQ45 at 48% and close to Thailand’s SET50 at 78% in terms of stock representation.”

Pheim Asset Management fund manager Khoo Zing Sheng regards the proposal as a necessary evolution rather than a compromise.

“Critics worry that adding 20 more names will dilute the index with ‘mid-table’ players, but a closer look at the likely candidates suggests otherwise,” he says.

“Companies such as KPJ Healthcare Bhd (KL:KPJ), Dialog Group Bhd (KL:DIALOG), IGB Real Estate Investment Trust ­(KL:IGBREIT) and TIME dotCom (KL:TIMECOM) are already high-quality, cash-rich ‘national champions’.”

For Khoo, the issue is not quality but timing.

“By the time a firm reaches this scale, it has often already passed its most dynamic growth phase,” he says, adding that the current index captures companies too late in their life cycle.

By lowering the effective entry threshold from about RM20 billion to RM8 billion, the expanded index includes companies earlier, allowing it to better reflect the economy’s growth trajectory.

He also highlights the structural concentration of capital under the current system.

“Keeping it restricted to just 30 names means the bulk of professional capital is naturally concentrated in a few specific sectors.”

Expanding the index, he reasons, redirects institutional flows into a broader set of companies, improving liquidity and coverage across the market.

While acknowledging that expansion leads to a short-term increase in turnover and transaction costs, he says the long-term outcome is more-efficient capital allocation.

“The long-term goal is to improve the efficiency of the entire market by directing institutional flows into a broader set of stocks.”

Khoo points out that a broader index enhances Malaysia’s appeal to global investors.

“It offers a broader selection of ‘investable’ choices that meet institutional standards,” he says, enabling “more diversified exposure to Malaysia’s corporate strength”.

Kong believes that ultimately, passive investment flows will remain a powerful force in shaping market outcomes. Index changes carry broad implications given the prevalence of benchmark-driven strategies.

“[A large number of] investors employ index tracking as an investment method, and thus the market impact could be felt across the board,” he says.

Currently, about 41% of foreign non-strategic investors adopt passive approaches, meaning rebalancing could redirect capital across the market, even if some local funds with active mandates do not strictly follow index weightings.

Pheim’s Khoo echoes this, highlighting how passive flows reinforce market dynamics: “This forced demand naturally pushes their market caps higher, which in turn defends the index’s overall quality,” he says, describing it as a “powerful virtuous cycle”.

Index inclusion compels institutional and passive mandates to buy into these stocks, creating a “scarcity premium” once reserved for a small elite. That demand lifts market capitalisation, defends the benchmark’s quality and raises the bar for future entrants.

The shift to an FBM50 structure, Khoo argues, strengthens the benchmark by making it more resilient, more representative and more attractive to global investors seeking a comprehensive view of Malaysia’s market.

The proposals are currently in the consultation phase, with submissions due by April 24. If approved, the changes will take effect on Dec 21, 2026, or June 21, 2027, depending on the outcome of the consultation.

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