South Korea: Short-term Supplement [IOTW: 03 Dec 18]

The past weekend was a fairly important one for the South Korean economy with the G20 Summit and a financial budget proposal potentially having significant impact on its equities and investors’ confidence.

Fiscal Stimulus to Boost Domestic Economy

Minimum wage increased by 16% at the turn of this year to boost domestic consumption. However, President Moon Jae-in’s policy has backfired terribly with small businesses being unable to afford the mandatory wage hikes. Instead, workers were laid off to maintain costs.

Chart 1: Employment Situation in South Korea
 

There are ongoing plans on raising the minimum wage by 10.9% next year as President Moon continues to strive to be the “jobs president”. Looking at how things have turned out this year, this would be a major concern as South Korea’s economy continues to slow and unemployment could continue increasing.

However, the Korean parliament has a record budget proposal for 2019 of 470.5 trillion Won (USD 416.5 billion), of which 23.5 trillion Won (5%) would be set aside for job creation. In total, 162.2 trillion won (34.5%) will be directed to the health, welfare and labour sectors.

Chart 2: South Korea 2017 GDP by Components

 

Almost half of South Korea’s 2017 GDP was driven by consumption. The budget proposal could help propel South Korea’s economy forward as South Koreans get a boost to their spending power. The government is also increasing support for SMEs (Small-Medium Enterprises) such that they will be able to afford the minimum wage hike.

The deadline to approve the budget was supposedly Sunday, but as of this article’s writing, we have yet to hear any news from it. An approval would likely bolster economy confidence.

G20 Summit – Temporary Truce

Another huge concern on investors’ mind must be the impact of the ongoing trade war between US and China on South Korea. Following the G20 summit, President Trump has agreed to leave the newly-implemented 10% tariffs on USD 200 billion Chinese goods unchanged and will not raise it to 25% at the turn of the new year. This spells good news for most Asian equities, including South Korean equities.

China is South Korea’s largest trading partner, with exports to China comprising of about 24.8% of 2017 total exports. Net trade with China contributed to about 2.85% of South Korea’s GDP in 2017. Looking at recent data in 2018, it seems like the trade spat has not affected South Korean exports yet.

 Chart 3: South Korean Exports to China
 

In the next 90 days, US and China will proceed on negotiations to improve trade relations. Depending on how things play out, we could see investor sentiment on East Asian markets improve and a recovery in prices of South Korean equities.

Animal Spirits

The KOSPI Composite Index has taken quite a beating this year due to earning misses, trade tensions, and economic problems, thus falling about -15% year-to-date as of 30 November. Its forward 12-month PE ratio for financial year 2019 was trading at 8.4X as of 30 November 18. The KOSPI has bounced up at market opening and positive investor sentiment could drive it further.

Chart 4: KOSPI Composite Index
 

Long-term Prospects

Despite the good news, there are still some issues weighing on South Korea’s prospects. The 10.9% minimum wage hike is still a rather steep one and it may be too early as the economy is still coping with the recent hike.

Considering that this is a single country investment, this should be considered as a tactical allocation for your portfolio. As has what happened in the past year, volatile movements depending on trade news are still a possibility as we head into 2019.

The investment products that you can utilise are iShares MSCI South Korea Capped ETF or iShares Core KOSPI 200 Index ETF for ETFs. The former trades on NYSE which may result in worse prices due to time lag whereas the latter trades on the HKEX, which is slightly better.

On the active management side, the LionGlobal Korea fund is heavily overweight on the Electronics sector while the JPM Korea Equity fund is heavily underweight on the same sector. This explains a huge part of their performance differences. Looking forward, the JPM fund is a safer bet but those who have a heavier risk appetite may go forward on the LionGlobal fund.

The Research Team is part of iFAST Financial Pte Ltd.