Market buffeted by confluence of negative news

Expectations of a U.S. rate hike, worries about the Chinese economy and a surprise shelling by North Korea have sent Korean stock markets into a deep rut.

The Kospi ended down 2.01 percent or 38.48 points at 1,876.07 points, the lowest close since Aug. 23, 2013 and the biggest percentage fall in nearly seven weeks.

The Kospi has lost 5.4 percent this week, and is down 7.6 percent so far this month.

Experts say the effect of North Korean issues will be limited.

“The show of aggression from the North has definitely hurt sentiment. But historically, markets have proven to be resilient to geopolitical factors,” said Kim Dae-joon, an analyst at Korea Investment & Securities. “North Korea-related effects will wear off.”

In October 2006, North Korea conducted its first nuclear test; in August, 2008, North Korea announced its denuclearization will be ended; in March and November of 2010, the Cheonan sinking and Yeonpyeong Island shelling took place.

But a month after each of these incidents, Korean stock markets outperformed other Asian markets.

The only two incidents in which Korean markets underperformed were when North Korea conducted its second nuclear test in 2009 and when Kim Jong-il died in 2011.

“Looking at previous incidents, Korean markets’ sensitivity to the geopolitical risks was not high,” said Yoo Seung-min, a market strategist at Samsung Securities.

Yoo added that one novel factor was North Korea’s threat to take military action if South Korea does not stop its psychological propaganda broadcast within 48 hours.

If tensions persist, the North Korean factor could drag the market down for longer than in the past.

But changes in emerging economies including China will be a bigger factor going forward.

“What’s really worrying the markets is the state of the emerging market economies,” Kim added. “We could sense the outflow accelerating following the Chinese PMI today.”

Data on Friday showed that the Chinese manufacturing index fell to its lowest level in more than six years, underscoring weakness in global demand and output from Korea’s biggest trade partner.

Regional markets suffered big falls, with the Shanghai Composite Index slumping 4.3 percent and the Nikkei 225 plummeting 3 percent.

The future of the Korean stock market is in the hands of foreign investors, analysts say.

Foreign investors were net sellers of around 440 billion won ($368.2 million) worth of stocks on the Kospi, continuing to offload shares for a 12th consecutive session as an exodus of foreign funds persisted in emerging Asia.

Foreign investors’ ownership of Korean stocks has fallen to 32.1 percent of the total, the lowest figure in six years. Foreign ownership has steadily been falling since Greek default worries deepened in June. At that time, foreign ownership of Korean stocks stood at 33.5 percent.

Foreign investors sold a net 1.05 trillion won ($880 million) worth of stocks in June and a net 1.8 trillion won worth of stocks in July.

This month, they have sold a net 1.9 trillion won worth.

Their net selling in the past three months adds up to around 4.7 trillion won.

“Given the U.S. exit strategy [from zero interest rates], risk-averse moves could continue somewhat, but this is not going to cause a massive outflow,” said Yoo at Samsung Securities.

Since 2009, whenever there was a major U.S. policy event, foreign investors on average sold $5.54 billion worth of Korean stocks during a 16-week period, and funds that will take an exit probably already have, according to Yoo.

But Chung Dong-hyoo at Shinyoung Securities had a different view.

“Given that net foreign selling amounted to 7 trillion won on average over seven intervals after the financial crisis,” he said, “there may be additional foreign selling until September when the Federal Open Market Committee is scheduled to have a meeting”

Elsewhere in the market, credit default swaps insuring Korean bonds against non-payment for five years rose three basis points to 67.5 points on Thursday, as investors demanded higher costs for covering Korea risks.

“As seen in big falls in the U.S. markets, worries about the macroeconomic factors, about the growing deflationary pressure and commodities weakness, are spreading,” said Kim Yong-gu, an analyst at Samsung Securities. “There is a sense that even the developed markets may not be safe.”

Following an exchange of shell-fire with North Korea late on Thursday, financial regulators, Ministry of Strategy and Finance officials and the central bank held emergency meetings early Friday to discuss stability measures.

“Looking at the historical data, financial markets stabilized and any fluctuations tended to be short-lived following frictions with North Korea,” the Bank of Korea said in a statement early Friday.

That suggested that stock market weakness in Korea was more attributable to global factors rather than inter-Korean tensions.

From June to July, foreign net selling in emerging Asian markets in terms of their percentage of the market cap were 0.23 percent for Korea, 0.3 percent for Thailand, 0.5 percent for Taiwan, and 0.44 percent for Malaysia.

“We will proactively deal with the issues when necessary,” said Kim Yong-bum, a standing commissioner at the Financial Services Commission.

BY PARK JUNG-YOUN [park.jungyoun@joongang.co.kr]