Who are you going to trust, the economy or the market?
The stock market, some say, is like a person walking a dog. The dog may move around in many directions, but it eventually follows the owner, the economy.
So while the Korean economy has been hit by the coronavirus pandemic, and is in a technical recession, the stock market is running far ahead as it nears an all-time record. This has people talking of a bubble, as the owner is walking slower than the dog.
The apparent overheating of the market has sparked a heated debate among investors, experts and the financial industry over short selling, which was banned for six months by the Financial Supervisory Service (FSS) in March. All Kospi, Kosdaq and Konex shares are covered by the restrictions.
In short selling, shares are borrowed and then sold immediately on the hope they can be bought again at a lower price to repay the stock loan. Since it bets on the drop in share prices, it's considered by some analysts as a good way to balance the euphoria.
The JoongAng Ilbo looked into three market indicators — the Composite Index of Coincident Indicators, Index of all Industry Production and the change in the Kospi index — to assess how the market has been moving compared to reality through June this year.
The Composite Index of Coincident Indicators dropped from 101.8 in January 2018 to 93.0 in June this year. The index consists of seven elements and is considered a broad measurement of current economic conditions. If the index is higher than 100, it means the economy is doing well.
The Index of all Industry Production, which assesses the production in manufacturing and services, dropped from 107.4 in 2018 to 105.1 in the second half of this year.
Despite both suggesting trouble, stocks moved in the opposite direction. The Kospi index shot up by more than 200 points, from 2,041.04 in 2018 to 2,249.37 in July this year. On Aug. 14, the Kospi was at 2,407.49 points.
Some experts say liquidity released to help the real economy flowed into the stock market. Strict real estate measures also had an effect, as people in their 20s to 40s started investing in stocks as an alternative to buying property.
Another factor that remains a topic of debate is the temporary ban on short selling. Some analysts claim the Kospi experienced a V-shape recovery as the ban fueled confidence of the so-called “ant” retail investors by preventing foreign and institutional investors from betting against them.
Retail investors have called the system “unfair” as the investment method is only, for all practical purposes, available to institutional investors.
"It’s as if foreign and institutional investors are allowed to use two hands in a soccer game when we [retail investors] are allowed to use only one," said Jung Eui-jeong, a representative of The Korea Stockholders Alliance at a recent debate on the issue held by the Korea Exchange.
This may be why it supported an extension to the ban, even bringing the issue to the Blue House petition website. More than 10,000 people as of Tuesday have signed a petition urging financial authorities to completely scrap the system. They say once short selling is reintroduced, stock prices will go down, and it will be the retail investors that suffer losses.
Lawmakers left and right have also offered support. Gyeonggi Governor Lee Jae-myung recently posted on his social media page a list of four reasons that the government should extend the ban for six months to one year. He also suggested a 20-year prison sentence for unlawful short selling. In the opposition, United Future Party (UFP) floor leader Shim Jae-cheol urged a complete ban on short selling in March saying it increases uncertainties in the market.
Some lawmakers even put the ban into proposed legislation.
Ruling Democratic Party (DP) lawmaker Hong Seong-kuk, who was also a former executive at Mirae Asset Daewoo, proposed a bill on Aug. 10 that calls for heavier punishments on illegal short selling. Another DP lawmaker, Kim Byeong-wook, is preparing a bill that limits short selling to large-cap shares included in the Kospi 200 index.
Analysts say the gap between the real economy and the stock market could worsen if the ban is extended further. Once stock indexes start to reflect the real economy, the damage retail investors have to suffer will likely worsen.
"An extension to the ban can help stabilize investor sentiment for a short period of time, but speculation will increase,” said Lee Han-sang, an economics professor at Korea University. “Once the bubble pops, retail investors might suffer much bigger damage.”
Lee Kyoung-min, an analyst at Daishin Securities also said the extension will do more harm than good in the long run, once more foreign investors start to leave the Korean market.
This is why reintroducing the system may be inevitable, as many countries that previously restricted such practices started bringing it back. In fact, six countries in Europe, including France, reintroduced the system last May. In Asia, only a few countries — Indonesia and Malaysia — have maintained their ban on short selling.
Other analysts say short selling’s impact on stock prices remains a matter of debate.
Stock prices might have risen for the past five months after the ban, but it was not the case back in October 2008 when the same measures were introduced. Back then, the Kospi index dropped by more than 30 percent in October alone.
“There are many factors that affect stock prices. Therefore, it’s hard to empirically prove short selling’s impact on the volatility of stock prices,” said Bin Ki-beom, an economics professor at Myongji University.
Financial regulators are considering the economic impact of the pandemic in deciding whether to extend the ban or not. The ban is scheduled to expire on Sept. 15.
BY KIM DO-NYUN, MOON HYEON-KYUNG AND KANG JAE-EUN [email@example.com]