The page you were trying to view is not available for your role.
Figures are accurate as of Thursday 30th July
If you follow financial markets, it won’t have escaped your attention that the South Korean stock market awoke from its moribund state last summer and more than tripled in value over the year to the end of June. It is now down 40% in a little over a month, so is it time to panic or time to buy?
For a decade, Korea has traded at a price-to-book (P/B) value ratio of around 1, and sometimes below. A P/B ratio below 1 should not happen. It suggests that if you owned the whole Korean market, you would make money by liquidating every company’s assets, implying there is no value in the earnings potential of these businesses. Except it’s probably not the earnings that are being undervalued, it’s the assets themselves. In theory these assets (often in the form of cash on the balance sheet) belong to the shareholders, but shareholders are sceptical they will ever see the benefit of them.
In 2024, Korea launched its Corporate Value-Up programme to combat the Korea discount I just described. This was inspired by the corporate reform story in Japan that is partly credited with improving stock market performance in recent years.
There are several strands to the programme, one of which is to improve shareholder returns by encouraging companies to do something with idle cash: either distribute it as dividends or reinvest it for growth. Korea is also home to family-controlled conglomerates, known as chaebols, which combine disparate businesses that should not really be managed together. Breaking these up could unlock efficiencies.
To begin with, the story of Korea’s surging stock market was generally put down to these reforms starting to work, but more recently it has become all about two stocks, SK Hynix and Samsung. SK Hynix is the world leader in high-bandwidth memory chips, while Samsung makes a wider variety of memory chips. These chips are required to sit alongside the more expensive Nvidia GPUs to train AI models, but, until fairly recently, few had spotted that demand was about to massively outstrip supply.
When we speak to the equity managers we invest with, roughly speaking, they can be split into two camps regarding their attitude to these memory stocks.
The first, the AI believers, say that the sheer demand for these chips from agentic AI and new data centres will continue to outstrip any additional supply that can be brought online. In their view, this memory shortage could last years, so SK Hynix’s stock price at 8x next year’s projected earnings at the stock’s June peak is still pretty cheap, and it is now nearer 3x.
The second, the traditional mean-reversionists, say that chip manufacturing is, and always has been, cyclical. Supernormal profits will bring new players into the market, squeezing incumbents’ profits and sending their stock prices back down to earth. For them, SK Hynix’s stock price at 27x last year’s earnings is ridiculously expensive for a cyclical business, although now it is down at 6x.
So, who is right? It looked like the ‘AI bros’ were in the ascendency up until July, but with the Korean market tanking, now the value investors appear to be edging it. Really, these wild price swings have nothing at all to do with sensible analysis of company fundamentals and everything to do with rampant speculation. Korean retail investors have been loading up on levered single stock ETFs - funds whose return is linked to 2x the daily return of SK Hynix or Samsung.
Quite how or why these were approved by the country’s regulator is something of a mystery as they should have foreseen the monster they were creating. Whenever leverage (people buying things with borrowed money) builds this quickly in very volatile assets, a violent unwind is often around the corner (think gold earlier in the year). That is what we are seeing now.
Korean policy makers have issued public apologies for the single stock levered ETF fiasco. Many will have lost their life savings, although others would argue that you were asking for it if you put your life savings in a single stock levered ETF.
As the madness subsides, we would hope fundamentals begin to reassert their influence on the Korea stock market once more. You never know exactly when all the froth has come out of a trade, but we are getting closer to that point. AI believers who had their fingers burned might be reticent to re-engage, so it would not be a surprise for the Korean market to trade sideways for a while once the bottom is found.
But the real question is: “Is this show about to die?”. We think the show is very much alive. A healthy correction should prove to be a good thing, albeit painful in the short term, but position sizing is everything. With a trade this volatile, it is not one to bet the house on, otherwise you might end up living in the Linton Travel Tavern.
Key takeaways
- Speculation combined with leverage can push markets far beyond what fundamentals alone would justify, both on the way up and on the way back down.
- The long-term AI opportunity remains compelling, but a buy and hold approach means a bumpy ride. Prices relative to expectations matter.
- In volatile markets, discipline and position sizing are just as important as identifying the right investment theme.
CJ Cowan
Portfolio ManagerCJ is a portfolio manager of the Quilter Investors Cirilium and Monthly Income Portfolios. CJ joined Quilter Investors in August 2018 from Aberdeen Standard Investments where he worked in the global macro team, managing global government bond and global aggregate portfolios.
CJ is a CFA charterholder and has also completed the Chartered Alternative Investment Analyst qualification. CJ has a degree in economics from the University of Bristol and an MPhil in Economic and Social History from Brasenose College, University of Oxford.
