Multiple re-rating has been promised often since the 1998 Asian crisis, and this would be required for the market to move above the elusive 1000-point level in a sustainable fashion.
The Korean economy and corporate sector have improved significantly since the low point of IMF intervention in 1998. Korean firms have restructured, much of it encouraged by the state. This has allowed foreign ownership and seen a reduction of chaebol cross-shareholdings and the divestment of non-core businesses. Korean firms have used the intervening years to reduce debt although debt within the economy has transferred to the personal borrower.
Helped by debt reduction and improvements in profitability, Korean companies have returned cash to shareholders through share buybacks and increased dividend payments.
This is positive, but what explains the significant gains, particularly in domestic-oriented businesses, since the lows of last year? Investors may be recognising the changes in the Korean economy and corporate structures and be happy to reward the market with higher multiples. This ignores other recent changes to the economy, however. Five-year Korean government bond yields reached a trough in December 2004, when dividend yields on a wide number of stocks were higher than the bond yield.
Since December there has been a sell-off in the bond market and the yield curve has steepened, accompanied by strength in the Korean won. This is an indication that the government is allowing the won to appreciate, partly to negate the effects of high oil prices on inflation. This allows the central bank to cut call rates, boost liquidity, and stimulate domestic demand.
Liquidity has improved, retail investors are back in the market and the index is hovering near all-time highs. Short term it looks like there is too much froth in the market after such large. Korea’s chances of sustained breakout into new territory may be limited short term but significant restructuring is occurring in corporate Korea and valuations remain attractive. Korea remains a market where stock-picking opportunities away from the benchmark will provide the most attractive long-term returns.
James Cameron, deputy fund manager, Atlantis Korean Smaller Companies Fund
