South Korea still inviting despite recent blows
Saturday, 11 August 2007
Song Jung-a
Investors on the hunt for emerging market opportunities should take a close look at South Korean stocks, which were badly hit during the turmoil earlier in the year but could be set for a strong rebound.
Foreign investors bailed out of the country this year, but analysts say they have left behind a market that is cheap against most others in the developed and emerging worlds and is being buoyed by a structural shift in domestic investment towards equities.
Foreign net selling of Korean shares exceeded a record $10bn since April as concerns grew over rising interest rates around the world, a slowdown in the global economy, and weaker earnings of Korean exporters such as Samsung Electronics and Hyundai Motor.
According to Merrill Lynch, global emerging market investors have turned underweight on Korea for the first time in about three years, sending the benchmark Kospi - the best Asian performer last year with a 54 per cent rally - about 6.8 per cent lower this year. Foreign investors now own less than 40 per cent of Korean shares.
Namuh Rhee, equity strategist at Merrill Lynch, says Korea suffered disproportionately in the recent global market correction, being one of the most liquid and largest emerging markets.
"South Korea has seen the most dramatic negative earnings revision this year," he says, noting that Merrill Lynch pulled down its 2006 Korea market earnings per share growth from 14 per cent last December to minus 2 per cent in July.
For example, Samsung, the technology bellwether, reported a 10 per cent fall in second-quarter net profit due to flagging handset sales and lower flat screen prices. Hyundai, the country's biggest carmaker, reported a 37 per cent drop in first-half net profit, as it was beset by labour disputes and the stronger won.
But analysts expect corporate earnings to bottom out in the current quarter, as the exchange rate stabilises and the technology sector, which takes up a quarter of the country's total market capitalisation, is showing signs of a turnround.
"First-quarter results were very disappointing and second-quarter earnings mostly met consensus," says Lee Young-won, a strategist at Prudential Financial.
"We will see a gradual recovery in the third quarter, and there are high expectations for strong performance of the IT sector in the fourth quarter."
He says the Kospi could break through its previous high of 1,464.7, touched on May 11, to reach 1,550 points in the second half, as domestic liquidity remains high. Local institutional invest ors have emerged as the buying force, providing a buffer against a foreign sell-off.
"Domestic funds keep flowing into the market, albeit at a slower pace than last year, providing support to the market," says Yoo Jung-sang, chief investment officer at PCA Asset Korea.
"Local investors will continue to have interest in the equities market, because other investment opportunities are not so promising."
Analysts say domestic fund inflows are "structural", because South Koreans are gradually shifting their asset allocations towards financial investments from bank savings amid relatively low interest rates and the sluggish property market.
Domestic institutions bought a net $5.7bn worth of Korean shares this year, as mutual funds, especially instalment-type funds, have become popular among Koreans since last year.
"Many of them began to see equities as a long-term investment vehicle," observes Woong Park, head of research at Woori Investment & Securities.
Mr Park believes the market has an upside potential, as valuations are still cheap. South Korea is one of the cheapest markets in Asia, with a price/earnings ratio of 9.4 times compared with the world average of 13.2 and the emerging market average of 10.5 as of end-July, according to Thomson IBES.
"Korean shares are still cheap considering reduced earnings volatility, better financial structure and improved corporate governance," he says. "There are some geopolitical risks related to North Korea, but unless there is a military conflict, the market will not be affected much."
But not every fund manager is so optimistic on the Korean market. Lombard Street Research, an independent adviser, recently told its institutional clients that the Korean stock market was likely to underperform for the next six to 12 months because of a poor macroeconomic backdrop.
Mr Yoo at PCA Asset also expects the Kospi to move sideways about the 1,300-point mark for a while. He admits Korea still suffers from a 20 per cent discount compared with other Asian markets, but a re-rating is not likely any time soon.
The bond market has performed poorly this year, as South Korea's benchmark interest rate remains lower than that of the US, in spite of higher credit risks. Analysts say upside potential is limited for Korean bonds as the rate-tightening cycle appears to be over amid growing concerns about an economic slowdown.
Investors could turn to South Korea's buoyant equity derivatives market for higher returns. Active participation by retail investors has made Korea the world's busiest market for equity derivatives, only a few years after stock index derivative products were introduced to Asia's third-largest economy.
Analysts say the market abounds with trading opportunities, with high volatility and strong liquidity.
Investors on the hunt for emerging market opportunities should take a close look at South Korean stocks, which were badly hit during the turmoil earlier in the year but could be set for a strong rebound.
Foreign investors bailed out of the country this year, but analysts say they have left behind a market that is cheap against most others in the developed and emerging worlds and is being buoyed by a structural shift in domestic investment towards equities.
Foreign net selling of Korean shares exceeded a record $10bn since April as concerns grew over rising interest rates around the world, a slowdown in the global economy, and weaker earnings of Korean exporters such as Samsung Electronics and Hyundai Motor.
According to Merrill Lynch, global emerging market investors have turned underweight on Korea for the first time in about three years, sending the benchmark Kospi - the best Asian performer last year with a 54 per cent rally - about 6.8 per cent lower this year. Foreign investors now own less than 40 per cent of Korean shares.
Namuh Rhee, equity strategist at Merrill Lynch, says Korea suffered disproportionately in the recent global market correction, being one of the most liquid and largest emerging markets.
"South Korea has seen the most dramatic negative earnings revision this year," he says, noting that Merrill Lynch pulled down its 2006 Korea market earnings per share growth from 14 per cent last December to minus 2 per cent in July.
For example, Samsung, the technology bellwether, reported a 10 per cent fall in second-quarter net profit due to flagging handset sales and lower flat screen prices. Hyundai, the country's biggest carmaker, reported a 37 per cent drop in first-half net profit, as it was beset by labour disputes and the stronger won.
But analysts expect corporate earnings to bottom out in the current quarter, as the exchange rate stabilises and the technology sector, which takes up a quarter of the country's total market capitalisation, is showing signs of a turnround.
"First-quarter results were very disappointing and second-quarter earnings mostly met consensus," says Lee Young-won, a strategist at Prudential Financial.
"We will see a gradual recovery in the third quarter, and there are high expectations for strong performance of the IT sector in the fourth quarter."
He says the Kospi could break through its previous high of 1,464.7, touched on May 11, to reach 1,550 points in the second half, as domestic liquidity remains high. Local institutional invest ors have emerged as the buying force, providing a buffer against a foreign sell-off.
"Domestic funds keep flowing into the market, albeit at a slower pace than last year, providing support to the market," says Yoo Jung-sang, chief investment officer at PCA Asset Korea.
"Local investors will continue to have interest in the equities market, because other investment opportunities are not so promising."
Analysts say domestic fund inflows are "structural", because South Koreans are gradually shifting their asset allocations towards financial investments from bank savings amid relatively low interest rates and the sluggish property market.
Domestic institutions bought a net $5.7bn worth of Korean shares this year, as mutual funds, especially instalment-type funds, have become popular among Koreans since last year.
"Many of them began to see equities as a long-term investment vehicle," observes Woong Park, head of research at Woori Investment & Securities.
Mr Park believes the market has an upside potential, as valuations are still cheap. South Korea is one of the cheapest markets in Asia, with a price/earnings ratio of 9.4 times compared with the world average of 13.2 and the emerging market average of 10.5 as of end-July, according to Thomson IBES.
"Korean shares are still cheap considering reduced earnings volatility, better financial structure and improved corporate governance," he says. "There are some geopolitical risks related to North Korea, but unless there is a military conflict, the market will not be affected much."
But not every fund manager is so optimistic on the Korean market. Lombard Street Research, an independent adviser, recently told its institutional clients that the Korean stock market was likely to underperform for the next six to 12 months because of a poor macroeconomic backdrop.
Mr Yoo at PCA Asset also expects the Kospi to move sideways about the 1,300-point mark for a while. He admits Korea still suffers from a 20 per cent discount compared with other Asian markets, but a re-rating is not likely any time soon.
The bond market has performed poorly this year, as South Korea's benchmark interest rate remains lower than that of the US, in spite of higher credit risks. Analysts say upside potential is limited for Korean bonds as the rate-tightening cycle appears to be over amid growing concerns about an economic slowdown.
Investors could turn to South Korea's buoyant equity derivatives market for higher returns. Active participation by retail investors has made Korea the world's busiest market for equity derivatives, only a few years after stock index derivative products were introduced to Asia's third-largest economy.
Analysts say the market abounds with trading opportunities, with high volatility and strong liquidity.