Market views: Is the South Korean market a no-go?
There’s no denying that the economy of South Korea is going through several rough patches, some which are not entirely the country’s own doing.
The country's export-oriented economy has been caught in the crossfire of the US-China trade tensions, with growth slowing as the dispute impacts global supply chains. The trade spat also caused it into a stand-off with Japan, which imposed export control on high-tech materials to South Korea.
The outcome has been poor performance in Korea's stock markets. The Kospi benchmark index has dropped over 25% from its high in January 2018, while it has fallen by 18% over the past 12 months. That tepid performance has had a drag effect on local asset owner returns. Korea’s National Pension Service was one to suffer; it posted a 0.92% investment loss for 2018.
However, there is a silver lining. While GDP data for the first quarter marked a 0.4% contraction, the country's economy rebounded to 1.1% in the second quarter, beating economists’ forecast of 1%. This has been aided in part by an interest rate cut by the Bank of Korea from 2.5% to 2.2%, while the central bank is also conducting more monetary stimulus to further support growth.
Meanwhile the drop in asset prices in South Korea mean its assets are now priced at historically attractive valuations.
Is now a good time to tap into undervalued assets in Korea, and if so in which asset class or sectors?
AsianInvestor asked five investment experts for their views on the investment appeal of South Korea's battered assets.
The following extracts have been edited for brevity and clarity.
Ben Luk, senior multi-asset strategist
State Street Global Markets
Despite Korean equities and the won already being the weakest link within the region year-to-date, I believe there’s more downside in the near term.
The Korean economy is not just faced with the persistent US-China trade negotiation, but also rising geopolitical tensions, supply overhang of the semiconductor cycle and last but not least, a loss of consumer confidence.
There’s no sign of a stabilisation in exports and that should continue to weigh on corporate profits, especially with earnings revisions stuck in negative territory for more than two years. Our Korea PriceStats series showed the lack of price momentum, indicating subdued consumer demand. Plus further monetary easing could be limited, given a high household debt situation.
Although foreign investors have remained resilient, driving the Kospi over the last few years, any unwinding could exacerbate the equity selloff, which could spill over to the currency.
John Cho, portfolio manager, JP Morgan Korea Equity Fund
JP Morgan Asset Management
Korea has seen a challenging first half due to the impact of the US-China trade tensions, a global demand slowdown hurting tech in particular, and most recently the Korea-Japan trade dispute.
Accordingly, Korea has seen a marked slowdown in GDP and a substantial cut in consensus earnings estimates for 2019. The downgrades resulted in the country’s underperformance and the current near-crisis valuation of sub-0.8 times on a price-to-book valuation basis.
While the top down outlook continues to look challenging, we expect economic and earnings downgrades to slow in the second half. Coupled with an expected recovery for semiconductors next year, plus currency tailwinds for exporters, we anticipate better sequential prospects for GDP and earnings.
Over the longer term, as Korea is no longer a structural macro growth story, we use a bottom-up, fundamental process to find interesting stocks.
First, we look beyond more obvious names to the mid and small cap space, which is less well covered. It is possible to find growth stocks even in a tepid growth environment; indeed growth can be more valuable when it’s scarce. Examples include dental implant medical stocks, and first person internet broadcasting.
Second, we are contrarian investors. By paying close attention to valuation we find mispriced opportunities to buy cyclicals in shipbuilding, construction and chemicals.
Andy Wong, senior investment manager, international multi-asset team
Pictet Asset Management
Cheap valuation by itself is not enough to invest in a market. Korea is caught in global geopolitics and rising regional tension. Domestic issues also add economic pressure.
As multi-asset managers, we see better risk/reward elsewhere. The US has a robust market structure and history of capital return to investors. While making progress, North Asia still has a way to go.
This view is substantiated by domestic investors/pension support, where US/Australia/India see perennial domestic inflows, while other Asian markets find that lacking. These markets rely on foreign inflows as a driver. In the current environment of heightened risks, US dollar strength, and weak emerging markets growth, investors will stay with the broader and deeper capital markets.
With heightened volatility, we prioritise capital preservation. Rather than betting on geographic regions, we prefer select secular growth themes such as tech leaders and Asian domestic consumption, or risk mitigating hedges such as gold. US/Australian bonds provide good relative yields and are easier to execute and FX hedge.
Select Korean companies can benefit from the data-is-the-new-oil theme or the growing Asian consumption trend. However, we will want to see some of the risk factors stabilise and Korea adjusting to the new normal before allocating more broadly to the region.
William Malcolm, portfolio manager for emerging market and Asia Pacific equity strategies
Aviva Investors
It has been a volatile year for Asian equities, and no more than for South Korea where performance has significantly trailed the region. Its elevated macro sensitivity to corporate profits has undoubtedly contributed, as the multi-layered trade-war tensions continue to weigh on earnings forecasts.
As stock-pickers there is a growing list of interesting opportunities, particularly as valuations have retraced upon diminished investor expectations and are arguably already at recessionary levels. One such area is the semiconductor space, caught up in the demand slow down and Japanese trade spat. In this increasingly oligopolistic global industry Samsung Electronics, SK Hynix and international peers are exhibiting far better supply restraint, which bodes well for when the cycle turns.
Another would be the Korean refiners, crushed by a slump in margins as global oil consumption stalled, but well placed for IMO2020, a global maritime rule that will ban high-sulphur fuels at the year-end with the potential to push refiner’s margins back towards cycle peaks.
There are company-specific improvement opportunities too, such as Hyundai Motors striving for a large turnaround in execution and Coway, which is being dragged down by uncertainties over its controlling shareholder.
In short, as the top-down malaise weighs on the market, greater the opportunity set for a bottom-up investor prepared to look through the gloom.
