As the Korean stock market roars past the once-mythical KOSPI index of 8,000, Korean investors are facing the classic investor dilemma: greed versus fear. More than half of the Korean population reportedly has a stock brokerage account, the highest level ever. For those already holding stocks or exchange-traded funds (ETFs), greed is setting in, with the temptation to buy more. For the other unfortunate half, the fear of jumping into the market at its current dizzying level would be frightening, and the loneliest feelings in a herd-driven society.
The history of the Korean stock market is littered with extreme cycles of boom and bust, often marked by retail exuberance, as we are seeing today. With each market bubble peak, there are theories that “this time is different.” There is never a better time than now to identify the factors that are indeed different from those that have not changed at all over time.
By now, international investors are aware of the power of Korean retail investors, given their traditionally massive underweight position in equities. Normally, the Korean bull market is marked by local investors jumping on trading momentum driven by growth themes and any news flow, especially in the small-cap space. The current bull market in Korean equities is showing a trend away from traditional patterns, as Korean retail investors are rushing into the bull market via ETFs rather than single stocks, which could have significant implications for the future of the Korean equity market and outlook.
The polarization of Korea’s bull market is unprecedented, with Korea’s “Twin Towers” of Samsung Electronics and SK hynix contributing to the majority of KOSPI’s upside this year. The bifurcation in KOSPI between the winners and the rest has never been so pronounced, with the two stocks dominating the gains over the rest of the KOSPI index.
For the past 20 years, the greatest disruptor to equity stock investing has been the proliferation of passive investing over traditional mutual funds. The explosion of ETFs has put active funds under tremendous pressure, with their scalability and tech-focused cost advantage. The global trend of fund outflows from active funds and into passive funds has led to significant changes in structural behavior, most notably in the pressure on value investing. As asset growth continues to shift to ETFs, the fundamentally driven stock picking has come under pressure, as inflows into ETFs and supply-demand for single stocks are driven by the market-weighted index rather than stock-specific factors.
Outperformance of large caps over small caps is one repercussion of the global ETF renaissance. Another structural shift, driven by the emergence of ETFs, has been the shift from institutional to retail fund allocation. Korea has been one of the markets slow to adopt this global trend, as its retail investors have shown a strong preference for single-stock investing over ETFs based on a benchmark. Historical reasons for this are the lack of institutional ownership and the late development of the Korean stock market.
For many years, I have highlighted the strong momentum-trading culture among Korean retail investors and the speculative nature of their investing. The power of FOMO (fear of missing out) among Korean investors is world-beating, as shown by their rush into MAG7 stocks in the U.S. over the past few years. The speculative culture among Koreans has led them to become last adopter ETFs, as their diversified portfolios were considered too boring for those seeking massive returns and immediate gratification. Until recently, policymakers have also implicitly accepted this culture, as indicated by the lack of a policy framework for transparency, long-term investing and shareholder returns. As we know by now, the Korean government under President Lee Jae Myung has finally set out to provide a platform for sustained, consistent returns by improving corporate governance, offering tax incentives for dividends and increasing transparency for minority shareholders.
Admittedly, the last six months of the current bull market have been more attributable to the artificial intelligence-related semiconductor cycle than to market reform efforts, masking much of the Lee administration's policy efforts. While the policy direction maintains its positive trend, the turbo-charged rally in KOSPI’s Twin Towers is getting all the attention. The sheer weight of the two stocks, which account for around 50 percent of KOSPI, has driven retail fervor for KOSPI and other semiconductor-related ETFs, leading to the hollowing out of nonsemiconductor sectors.
Another unusual aspect of the current bull market is that, for a market driven by retail investors, KOSDAQ has not shown any signs of life. KOSDAQ, the secondary bourse to the main KOSPI, is a less transparent and more speculative market in general. A bull market driven by retail investors would typically lead to retail investors trading on KOSDAQ and small caps, especially during the final stages. This divergence from historical patterns suggests that Korea’s speculative investors may not be ignorant of fundamentals relative to the past, which could be a positive for the ultimate endgame. As much as current fund flows and sentiment are driven by the semiconductor megacycle, the structural maturing of Korean retail investors will place it in stable hands when the cycle ends, ensuring that this is not a typical boom-bust cycle of Korea’s past.
The popularity of ETFs over speculative individual stocks or KOSDAQ is the strongest indication that we are not seeing the typical speculative bubble of Korea’s past. Secondly, the president's “Value-up” market reform remains on track with continued commitment to support minority shareholder rights. Non-semiconductor stocks will ultimately benefit from this policy effort over the long run.
Source: Korea Times News
