Still room to run on South Korea’s bull market

SEOUL – Smart and lucky punters on South Korea’s bull market have seen their KOSPI benchmark investments more than double from a year ago, but experts and analysts say there is still room for bulls to run through at least mid-year.

Though pension fund and foreign investor selloffs this year have exerted downward pressure on the bourse, much of the slack has been taken up by newly aggressive local retail investors, who are moving out of South Korea’s traditionally favored investment destination: property.

Amid excess liquidity that is readily available for short-term use, strict regulations on the housing market are expected to keep retail investors in stocks. A series of scheduled IPOs in new industries such as the internet, e-commerce and fintech are also positive factors.

And the broader outlook remains upbeat as listed companies’ earnings are forecast to continue to improve until next year, most notably in semiconductors – South Korea’s leading export.

Chips boomed amid the Covid-19 pandemic due to demand from data centers and electronic devices as the world grappled with the stay-and-play-at-home trend of lockdown. The world now faces a chip shortage – an excellent situation for the sector, which some analysts say is now entering a “supercycle.”

Amid the pandemic, South Korea’s exports were sluggish until late October. They have been in rebound mode since November, seeing a 3.9% year-on-year increase in that month, and have since seen a rise for five consecutive months with a whopping 16.6% increase in March.

Meanwhile, the South Korean government’s use of policy tools to foster new industries, such as clean energy, is also expected to boost investor sentiment.

A broader factor at play is the ongoing and expected post-Covid recovery in the local and global economies, despite downside risks such as rising market interest rates, geopolitical risk and valuation issues caused by last year’s surge in stock prices.

Last week, the International Monetary Fund raised South Korea’s GDP growth forecast for this year to 3.6% from the 3.1% it had projected in January. The number is well north of the OECD’s forecast of 3.3%, the Bank of Korea’s 3.0% and the Korean Ministry of Economy and Finance’s 3.2%.

The IMF said it raised the forecast in consideration of the growth of exports and investment following the recovery of major economies and the effect of the 14.9 trillion won (US$13.2 billion) extra budget passed by the National Assembly last week.

Let the good times roll

Now the benchmark KOSPI is at 3,112 points, a massive leap from 1,724 exactly one year ago. And analysts and experts see more room to rise.

“We believe the KOSPI can rise to the mid-3,000s level by the end of this year,” Lee Kyung-soo, the research head of Meritz Securities, said in a telephone conversation with Asia Times.

Lee reeled off his reasons.

“Listed companies’ performance is forecast to continue to improve. Their net profits will reach 130 trillion won this year and 157 trillion won next year,” he said. “Based on this forecast, we believe that the proper KOSPI index level will touch the mid-3,000 range.”

According to Lee, local securities houses’ consensus outlook of net profit is about 137 trillion won this year and 160 trillion won next year. His forecast is slightly below the consensus, in consideration of analysts’ optimistic bias.

“I think there will be another rally,” added Chung Yong-taek, the research center head of IBK Securities. “We see the KOSPI at a high at about 3,300.”

“Semiconductor analysts continue to raise their earnings outlook for this year and the first half of next year, and the new industries that the government is trying to foster through the ‘Korean New Deal’ are in the same direction with the policy of the US and China,” Chung said. “These are all positive factors for the Korean equity market.”

The ‘Korean New Deal’ includes among its aims of fostering data and AI-related industries, clean energy and eco-friendly automobiles.

It’s not only locals, but global investment banks are also upbeat. J J Park of JP Morgan said in a recent report that the bank’s KOSPI target is 3,200.

According to the report: “The market has priced in heightened earnings expectations starting 4Q20, while recent EPS (earnings per share) upward revisions seemed to have calmed down following the rising valuation burdens on surging market rates. However, such headwinds will likely alleviate given the cautious stance of the central banks with the base rate to remain unchanged for the foreseeable future.

“Economic indicators such as global exports have meaningfully come up for the past months, and optimism on Covid-19 vaccinations will pave the way for higher visibility on fundamentals to support upward trending interest rates and lift equity sentiment. “

Goldman Sachs is even more optimistic. Last month, it raised its 12-month KOSPI target to 3,700 points from 3,200 points. 

It said: “The key driver is our above-consensus global growth view (6.6% vs. 5.4% for 2021), which benefits cyclical sectors such as semiconductors, consumer discretionary, materials and industrials. The rising share of new economy companies adds further fuel to aggregate EPS growth.” 

Weighing the risks

Interest rate risks look low. “As the policy rate is expected to remain at the current level for a considerable period of time, a rise in market interest rates will not be a big problem,” said Lee of Meritz.

But for export-centric, man-in-the-middle South Korea, geopolitical risks are a real factor.

Defying expectations that Beijing-Washington relations would thaw with a new US administration change, conflict was reaffirmed at the China-US meeting held in Alaska last month. In the meantime, North Korea launched ballistic missiles on March 25, a surprise move that has put the hermit nation on a new collision course with the US.

“The geopolitical risks are diplomatically troubling, but the impact on Korean companies’ business activities will not be significant,” argued Lee of Meritz. “We expect the impact on the stock market to be neutral because the Sino-Korea trade is expected to continue on each other’s needs.” 

China sanctioned South Korea after the latter deployed a US THAAD anti-missile battery in 2016. Some companies – notably Lotte, which offered the land for the battery – were hard hit, as well as the K-pop sector, gaming and tourism. But those effects have been priced into the market.

Chung of IBK Securities said: “We are concerned about geopolitical risks. But I don’t think the US-China relations are going to get any worse.”

He cited a number of restraining factors.

“Both the US and China can send strong and hostile political messages, but managing internal issues such as controlling the pandemic is the priority,” he added. “So, it is difficult to take any concrete hostile economic measures against each other. Especially as China is set to host the Winter Olympics in February next year.”

Return of the shorters

The resumption of short-selling in early May is another variable. Authorities suspended shorting in March 2020 as the pandemic hit South Korea. They initially planned to resume short-selling this March but postponed the resumption until May 3 due to political pressure from retail investors, who demanded an outright abolition of the practice.

Under its revised plan, the government intends to restrict short-selling stocks to large-cap stocks that make up the KOSPI 200 and KOSDAQ 150 indices. Seoul has also announced a range of fines and criminal punishment for illegal short-selling.

Unlike institutions, it is difficult for individual investors to borrow stocks for short-selling because of their higher risk of default. The stock-lending period for institutional investors is about six months to one year, while only 30 to 90 days are allowed for individual investors. Institutional investors also pay lower fees for short-selling than individuals.

Hence, critics insist short-selling is a tilted playing field. Even so, experts don’t believe the return of shorting will change the market’s upward trajectory in view of historical experience: shorts were banned twice and resumed twice, in 2009 and 2011.

On this, Goldman Sachs wrote: “In these episodes, the equity market experienced a technical correction and short-term volatility ahead of the resumption and also weakened modestly after the reintroduction of short selling. However, after a month, the equity market regained lost ground and in each case surpassed its respective pre-short sale resumption high.”

Rise of the retail player

Although a positive outlook is prevalent in terms of fundamentals, recent sell-offs by foreign investors and the National Pension Service, or NPS, which significantly impacted the South Korean stock market, have become a source of instability. Continued sales by these players may dampen retail punters’ enthusiasm.

Pension funds, including the National Pension Service, or NPS, recorded 16.2 trillion won of net sales this year through March 31. Overall, institutional investors sold 31.3 trillion won in net sales. But retail investors kept the market buoyant, posting net buys of 43 trillion won over the same period.

While South Koreans have not traditionally been major investors in equities, low-interest rates and new regulations dampening real estate have pumped liquidity into stocks. The relative dearth of local retail players was one reason why the South Korean market was discounted for so long.

Some fret that continued sales by institutional players may dampen retail punters’ enthusiasm and that the current individual investors’ buying spree is excessive.

Goldman Sachs, for one, disagrees.

“Adding both incremental equity mutual fund AUM (Assets Under Management) and retail balances from brokerage accounts, we find that total retail new buying is about 6.6% of market cap compared to 9.6% in 2007 prior to the 2008 global financial crisis,” said the US bank. “This, in turn, suggests that retail investors are not overextended in aggregate, or at least not as much as during the last retail boom.” 

Individuals come, NPS goes

A high-profile variable in the market – albeit one fraught with moral hazard – is the investment strategy of the NPS.

The NPS is lowering its proportion of South Korean assets, including stocks and bonds, as per its mid-to-long-term asset allocation plan. As such, it plans to lower the target allocation of South Korean stocks from 17.3% last year to 16.8% by the end of this year and to around 15% by 2025.

Its domestic stock asset valuation last year increased 176.7 trillion won due to soaring stock prices, accounting for 21.2% of its total asset valuation of 833.7 trillion won. 

The NPS continues to offload stocks to meet its target of 16.8% this year. The plan has drawn criticism from retail investors and some politicians, in the belief that the sell-off could torpedo the market.

Currently, the NPS’s income dramatically exceeds pension payments. But when pension payments exceed income, the NPS must dispose of assets to pay pensions. According to a report released last year by the National Assembly, the NPS is expected to enter a deficit in which pension payments exceed income from 2040 and run entirely dry in 2054.

A market strategist said: “The NPS looks like it is selling at the KOSPI level at 3,100-3,200, and then will be buying when the index dips below 3,000.” 

“It’s hard to predict how many more stocks the pension fund will sell, but the trades of the NPS do not decide market trends,” said the source. “Fundamentals come first – and current fundamentals are favorable to the stock market.”

Foreign punters profit  

Foreign investors have previously been influential leaders of market trends. Foreign investors have sold 9.5 trillion won in net sales this year through March 30. Foreigners bought 6.1 trillion won net in November last year alone before profit-taking.

“Global investment banks offer positive views on the Korean and Taiwanese stock markets and recommend buying into sectors such as semiconductors, IT stocks and banks,” a market expert said. “However, in actual trading, foreign investors sold net in electronics and semiconductors in March.”

In this hothouse atmosphere, market rumors are flying.

“Despite the positive outlook of the investment banks, some analysts say that the selling pressure by foreigners in the Korean stock market will continue while they continue to expand their share of the Chinese and Indian markets,” the expert said.

But Goldman Sachs, which forecasts an 8% decrease in the dollar/won rate to 1,020 in 12 months, predicted that the weakening dollar might lead to foreigners’ buying into the South Korean stock market.

The dollar was weak against the won when foreign players made their net 6.1 trillion won purchases last November, it noted.