KOSPI

Ichiro Suzuki

The South Korean stock market has recently shattered a long, well-established order in the global equity markets. Its meteoric rise since last year has lifted the size of the Seoul market above any market in Europe. In the mid-2020s, the darling of the markets is AI, which receives disproportionate attention in what might be later called as “the third industrial revolution’. This has happened before, toward the end of the 20th century, a surge in productivity growth was led by what was then called the “new economy” that shamed the more traditional “old economy” The advent of the Internet fueled the new economy boom in a spectacular fashion. All those dot-com companies that skyrocketed were not only making zero earnings but also were even burning cash, but they still surged in frenzied trading. The rally got over-hyped by the turn of the new century, and the market had succumbed to gravity eventually, and the vast majority of the companies that were the center of the boom had faded, or simply perished. After all those frenzies were completely taken out, however, tech companies with skills to monetize their technology began to thrive and came back in massive ways, and have grown to be hyper-scalers that are dominating the market today.

The surge of the KOSPI, the Seoul market’s main index, had a flavor of the dot-com era frenzies. To begin with, KOSPI has been known for its volatility. Retail investors are more short-term oriented than those in the west or Japan, with shortages of long-term money invested in the market. For the love of volatility, many of the retail investors trade on margins, and those who don’t get a margin account are inclined toward leveraged ETFs, which can earn them great profits quickly, or vice versa. In addition, the Seoul market has been dominated by two semiconductor titans whose market capitalization soared above the trillion dollars mark in this rally. Samsung Electronics and SK Hynix are dominant producers of DRAMs (dynamic random access memory). The semiconductor space has been known for cyclicality and volatility that are characterized as silicon cycle, behind their superior long-term returns. 

In the U.S., having been accused of insufficient capital investments for years, hyper-scalers have suddenly woken up for the opportunities AI brings and are investing as if there is no tomorrow. The AI enthusiasm has spawned a data center construction boom that led to an unprecedented run-up in DRAM prices on demand surge. With Samsung and SK Hynix, South Korea has hit a sweet spot in tech investing. By mid-June, these two  trillion dollar titans’ weight rose above 60% of the market. 

On June 19, the KOSPI closed at another all time high of 9,385. The historic 10,000 milestone looked within reach but then sellers got the upper hand. After all, the June 19 peak proved to be dizzying enough, having tripled since a year ago. If history is any guide, an emerging market that has doubled in a year in U.S. dollar terms, including currency gains, can be labeled as a bubble, with a very strong chance of giving in to gravity in the coming weeks and months. This happened to Asian markets in 1993 when the region began to take off as a manufacturing hub. A similar surge was witnessed again in the 12 months through the end of October 2007 at the height of the BRICs frenzy driven by the rise of China  upon its entry to the WTO. In the same fashion, the Nasdaq returned 109% in the 12 months on its way to the height of a bubble on March 10, 2000 that would stand for the next 15 years. South Korea still technically belongs to an emerging market world, primarily due to restricted convertibility of its currency, the won. If doubling of relatively small emerging markets is considered as a bubble, what can be said about tripling of South Korea that became the fourth largest on earth? 

By the end of July, the KOSPI has lost over 40% of its peak value. That’s a faster decline than the Nasdaq’s ordeal in the same time frame following the peak, when it eventually lost 79% of the peak value in two years and eight months. Collapse of the Nasdaq after the late 20th century frenzy was inevitable, in retrospect, since its valuation was driven way up high by soaring expectations for the new technology. Valuation soared but earnings had failed to keep up with expectations, and then the market had collapsed. (In the 2010s, the tech sector began to generate powerful earnings to prove that the late 20th century boom wasn’t a total mirage.) The KOSPI had tripled in 12 months on its way to the peak, holding its price-earnings ratio at ‘relatively reasonable’ 30 times. However, semiconductors are not a kind of industry that hasn’t been rewarded rich valuations due to its earnings volatility. DRAMs in particular have been known as an engineered commodity whose prices move up and down fiercely. This is an unprecedented boom that is bringing in unprecedented profit surge to DRAM makers. That said, every boom is followed by a period of more stable demand, even if not followed by an outright slump. Returning to normalcy would require some somber valuations on chip makers, at least. 

As it turned out and not surprisingly, the semiconductor subsector was driven up by some frenzied investors. Situational Awareness, a hedge fund specialized in the space, had run into difficulties in July on the market’s sharp correction. A fear of fire sale of the fund’s position had spooked the market, deepening the correction. Citadel Capital had rescued the fund eventually, bringing back some stability to the market. In South Korea, a large number of retail investors got burned seriously as their reckless bets had failed. The KOSPI’s turmoil since late June is hitting President Lee Jae Myung. He is under pressure to do something about the market. This correction, however, has originated in the U.S., and there is nothing Mr. Lee can do about it.  It takes time for the KOSPI to heal and some investors might have to live through a prolonged tough period. 

About the author: Mr. Suzuki is a retired banker based in Tokyo, Japan.