On 9 May, Moon Jae-In was elected president of South Korea. Given the political turmoil both in- and outside the country, analyst Koos Burema traveled to South Korea to gain first-hand insights into the country’s situation. He expects political tensions to subside.
As liberal presidents have taken a more pacifying policy towards North Korea, President Moon may do this as well. President Moon’s parents fled North Korea during the Korean War, and he still dreams of returning to his parents’ home town Hungam with his mother.
That said, North Korea fired another ballistic missile into the sea on 14 May. This leaves little reason to believe that President Moon will remove the US anti-missile system THAAD (Terminal High Altitude Area Defense) from the country. Note that President Moon had already shifted his position from objection to conditional support for the THAAD system before this missile test.
Mainland China sees the deployment of the THAAD system in South Korea as a threat to its security. This has had severe impact on the relationship between the two countries: it led to a more than 50% decline in Chinese airline passengers between China and Korea, and Korean car manufacturers Hyundai Motor and KIA Motors have sold over 50% fewer passenger vehicles in China since March. Nevertheless, China’s President Xi Jinping already had a congratulatory call with President Moon, and it seems that the latter will visit Beijing soon in order to try to resolve the dispute.
Even though resolving the dispute does not seem to be easy, it is a very positive sign that both Presidents have agreed to meet. Besides, the latest comments we heard from Korean companies were already slightly more positive, hinting that the ‘boycotts’ of Korean products have eased a little already.
Next to all foreign affairs, President Moon has pledged important economic reforms after previous President Park Geun-Hye’s impeachment. Ms. Park was impeached after a political scandal in which her aide used her position to seek donations from several chaebols, the large family-controlled conglomerates including Samsung and Hyundai.
One of the first important actions by the new president has been naming Kim Sang-Jo as chief of the Fair Trade Commission. Mr. Kim, nicknamed ‘Chaebol Sniper’, has an economic background and has been advocating shareholder rights and chaebol reforms. Even though he still needs an endorsement from the prime minister and needs to undergo a parliamentary hearing, it seems that he will be putting pressure on canceling circular ownership structures and constraining intra-group transactions. Combined with other corporate governance improvements that Mr. Kim has been advocating, this might lead to a significant decline of the so-called ‘Korea discount’.
All these reforms would be a major positive for the Korean stock market. One less positive reform is a potential increase of the corporate tax rate. President Moon has also been discussing tax reforms during the election process. However, as the current 24.2% tax rate is not low in an international context, the focus seems to be on raising the effective tax rates by reducing tax deductible items. As there have not been any concrete plans, it is difficult to judge the final impact on companies’ earnings. Please note that South Korea still runs a budget surplus. Besides, President Moon’s party only controls 40% of Congress, so he will need to find a political partner for these reforms.
We still see more positive than negative developments in South Korea. This is probably also the reason for the Korean market to continue to outperform; the MSCI Korea index gained 5.3% this month (until May 19) while the MSCI Emerging Markets Index gained 1.9%. For the year, the MSCI Korea Index added 24.3%, against 16.1% for the MSCI Emerging Markets Index (all figures are net returns in USD). Even though most returns stem from stock market performance, it is important to highlight that despite all the political turmoil the Korean won has appreciated 8.1% to the USD so far this year.
From a portfolio perspective, Robeco Emerging Markets Equities continues to be overweight Korea. The strategy has 19.5% of its portfolio invested in South Korea against 14.9% for the MSCI Emerging Markets index. The Robeco Emerging Stars Equities strategy has 28.4% of its portfolio invested in the South Korean stock market (all portfolio weights as at the end of April 2017). We remain positive on the South Korean stock market due to its macro-economic outlook, overall valuations and positive earnings revisions. From a political viewpoint, we expect political tensions to fade, but we will monitor potential escalations of the situation on a daily basis.