Domestic demand adds to South Korea’s roar
FROM shipbuilding and car manufacturing to world-class information technology and high-tech white goods, South Korea has gone from strength to strength since the 1960s.
In the 1990s, South Korean multinational firms made a deliberate shift towards more
high-technology goods and it is now home to well known household names such as Samsung, Hyundai, Daewoo and LG. And as further evidence of the country’s growing clout, it is this year’s chair of the G20 – the first emerging market country to play this role.
Indeed, such is the country’s global presence, it may surprise some that South Korea is still seen as an emerging market. For example, its GDP per capita is already around $20,000 – only slightly behind Portugal, Israel and Slovenia – while its life expectancy is on a par with that of the UK. Indeed, the FTSE Group announced that it would reclassify South Korea as a developed market in September 2008.
But in contrast, benchmark index provider MSCI announced last month that it would maintain the MSCI Korea Index in its emerging markets classification because of continued difficulties experienced by international institutional investors in accessing the country’s stock markets. However, the MSCI added that the index would remain under review for a potential reclassification to developed markets in 2011.
These concerns over accessibility make exchange-traded funds (ETFs) an ideal way for both institutional and individual investors to gain exposure to one of Asia’s strongest growth stories. Both Deutsche Bank’s db x-trackers and BlackRock’s iShares offer ETFs on the MSCI Korea.
The db x-trackers’ ETF has a total expense ratio (TER) of 0.65 per cent per annum while the iShares fund has a TER of 0.74 per cent. Both funds’ biggest holding is Samsung, followed by steel manufacturer Posco and then Hyundai Motor Company. The iShares ETF is weighted most heavily in favour of information technology, which makes up 30.03 per cent of the index, followed by financials (16.47 per cent); industrials (14.09 per cent); materials (13.72 per cent) and consumer discretionary (13.38 per cent).
But what is the outlook for the Korean stock index? The Kospi 200 sold off sharply in May following North Korea’s sabre-rattling and HSBC analysts note in their latest Asia Insights Quarterly that, historically, increased tension between the north and south has often represented a good buying opportunity for Korean stocks. Accordingly, they reiterate the overweight stance that they initiated last quarter and maintain their end-2010 target for the Kospi at 2,000, which is trading at 1,764.54.
“Korea still seems to us to offer the best balance of risk and reward in Asia. It is the cheapest market in the region on a 12-month forward price-to-earnings ratio of 9.2 times and a price-to-book of 1.3 times,” they write. Cheap valuations mean that Korea is also seen as an inexpensive way of getting exposure to Chinese growth.
The Kospi, and consequently the MSCI Korea, should benefit from earnings growth of 49 per cent in 2010, driven by one-off rebounds in telecoms and utilities. Next year’s forecast is just 7 per cent but this appears to be very cautious and analysts suggest it may well be revised up – further good news for the stock market.
Growth is also expected to be strong – recent figures showed that the economy grew by 1.5 per cent in the second quarter, and first quarter growth was revised up to 2.1 per cent. Private consumption and investment provided the chief supports to growth in the second quarter, unlike in the first three months of 2010, when (temporary) government spending and inventories were central. This is good news, says Lombard Street Research’s Maya Bhandari. “Korea stands out for the strength of its domestic demand, which will be vital if the global economy double dips,” she says. Korea’s prospects are good compared to both its regional and emerging market peers for two reasons, says Bhandari. “First, its recovery has been good, but not excessive. Industrial production, for example, is 11 per cent above the pre-crisis peak, placing it after only China and India among significant emerging markets, but without their shared stagflation risks.” Second, she adds, unlike some of its pure-exporter neighbours such as Malaysia, which faces twin-threats from a Chinese and commodity price relapse, Korea has solid domestic demand to fall back on.
The Korean stockmarket is historically cheap and has good prospects. Now is the time to buy.