On Asia: Locals return to Korean markets

......In recent months, Korean newspapers and commentators have taken to bashing foreigners with a gusto that would make their North Koreans neighbours proud.

......reserved for international private equity groups.

The buy-out funds have been attacked for making a lot of money on buying and selling Korean companies while trying to minimise their tax bills......

......Korean companies"™ earnings have declined in 2005, the internal political situation is uncertain as the president appears to have lost his way, and there has been no material progress on North Korea.

Mix in all this bad news, and you would think the famous "œKorean discount" applied to local equities would have increased, right? Wrong.

The Korean stock market is the best-performing in Asia over the past 12 months and, after a rise of nearly 50 per cent, is flirting with its all-time high. Could we be witnessing the historic demise of the Korean discount ......

......the discount is still there. Analysts reckon that Korean stocks are about 25 per cent cheaper than the Asian average on both this and next year"™s earnings forecasts.

In addition, foreigners, who own some 40 per cent of the market, have been net sellers of equities since January as rising global interest rates prompted them to take profits in emerging markets, especially strongly performing ones.

Yet the benchmark Kospi index kept going up throughout the period.

The explanation for this seemingly odd behaviour is both simple and revealing: local investors, flush with cash, have been buying equities for the first time in recent memory.

Morgan Stanley analysts estimate that in September alone there has been a net inflow of Won2,000bn (US$2bn) into equities, largely driven by Korean investors.

......Domestic pension funds have been investing in equities in their quest for better returns to pay for future liabilities "“ a strategy actively encouraged by South Korea"™s interventionist government.

Indeed, the state-run National Pension Fund, swollen by an increase in contributions and investment returns, is widely expected to increase the proportion of its portfolio dedicated to equities from the current paltry 6.5 per cent.

At the same time, Mr and Mrs Kim have been encouraged to invest in equities by the launch of a flurry of long-term investment products.

And with good reason. With the government bent on curbing property speculation and bond markets reeling from rate rises, the alternatives to equities do not look that attractive. It is no coincidence that a total of Won12,400bn left local bond funds in the first nine months of 2005.

Local support will be good for the market.

By their nature, domestic retail and institutional buyers take a longer term view than foreigners, partly because they have fewer options on where to invest their funds. They are also more prepared to stomach the sharp ups and downs of the Korean market, Asia"™s most volatile.

This being Korea, though, I foresee a pitfall. If domestic investors become significant operators, the nationalistic sentiment in financial matters is bound to grow even stronger.......

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