Misfiring government policy, the Sino-US trade war and an escalating dispute with Japan have seen investors flee Korean equities in droves over the past 12 months. With pessimism at its peak, the market is now the cheapest it has been in the past 10 years. While uncertainties remain, negatives are priced in, and 3Q19 is likely to mark the bottom of the cycle.
Rarely has an economic slowdown lasted for more than six quarters
Korea’s cyclical downturn has stymied growth over the past four quarters, relegating it to Asia’s worst-performing market this year, but rarely has an economic slowdown there lasted for more than six. We expect 3Q19 to mark the trough of the cycle as investments and exports bottom. Even without changes to government policy, a low-base effect, won depreciation, rate cuts, and stimulus in the lead-up to a general election in April 2020 should prevent any further deterioration.
US-China trade war is not all doom and gloom
While singled out as a key victim of the trade war, it is not all doom and gloom. Korean companies have an opportunity to gain comparative advantage over competitors whose entire supply chains are in China. Long-term resilience of key industries, such as semiconductors, has strengthened as Beijing’s push into the higher value chain is delayed. Writing Korea off in next-generation technologies is a mistake given its abundant and competitive human capital and R&D capabilities.
Poor sentiment is driving the market discount
Korea’s market discount has expanded despite the improvement in corporate governance, having found a new reason in its socialist government. The ruling party’s economic and diplomatic policies are sapping business sentiment and driving away investors. Nonetheless, continued improvement in shareholder returns is positive, and a deal between Donald Trump and Kim Jong-un could be a potential catalyst.
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