Central bank action would boost cheap Korean equities

Added 21st May 2015

Central bank action would boost cheap Korean equities

About 50% of Korea's GDP is dependent on exports, which have been declining this year, according to Aidan Yao, senior emerging market economist at Axa Investment Managers.

Weak external demand from the US is one reason why exports are falling. Also, Korean companies are strong competitors with their Japanese counterparts and the strengthening of the Korean Won against the Japanese yen has put Korea at a disadvantage, Yao said.

The Bank of Korea has so far kept the policy rate unchanged at 1.75%. Yao believes the pressure is building for a rate cut.

"The significance of Korea's exports means that weakness in the sector could easily spread to the wider economy, forcing the BoK into action.

"Overall, we see significant headwinds facing the Korean economy that warrant further policy easing."

Cheap equities

The Korean market is also the cheapest since 2009 on a price-to-sales basis (share price divided by per share revenue), writes Jeremy Schwartz, director of research at Wisdom Tree, in his blog.

"As a result of other markets becoming more expensive, Korea is selling close to a 32% discount to Japan, a 67% discount to the United States, and a more than 46% discount to broad developed international and emerging markets."

Schwartz believes that "the probability of the government doing more is higher than of it doing nothing". 

"Given the relatively low starting valuation, coupled with the potential for the central bank to provide stimulus to the economy, we may be looking at an attractive combination for Korean equities."

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