Analysts said funds that had flocked to large caps in Korea's stock market, which saw record-high volatility, could shift to small and mid-caps. With tighter rules on single-stock leveraged exchange-traded funds (ETFs) and foreigners continuing to be net buyers in the KOSDAQ market, conditions are forming for a rebound in previously sidelined stocks.
Na Seung-du of SK Securities said in a report on the 3rd, "After paying the expense for excessive concentration, the market's next move is highly likely to appear as concentration and neglect are reversed."
In the last week of July, the KOSPI and KOSDAQ fell 1.4% and 3.8%, respectively. The weekly declines were not large, but both markets triggered circuit breakers simultaneously for two consecutive days for the first time ever during intraday trading, and on the final trading day the KOSPI posted a record-high daily gain.
On a monthly basis, both the KOSPI and KOSDAQ fell more than 20%, the steepest declines among major markets. Na assessed that, with a correction comparable to the global financial crisis, moves to find a bottom have begun. He also interpreted the sharp rebound on the last trading day as a signal raising expectations for August trading.
The plunge was explained by an excessive concentration of money into the top two stocks by market capitalization. Strong investor interest in major semiconductor names, combined with mechanical buying through single-stock leveraged ETFs, meant corrections in the two stocks spread into a broad market slump.
Na said, "July's moves in the domestic market were a period akin to an expense charged for excessive concentration," adding, "This may have been less a signal that the Korean stock market itself is risky and more a signal that a market where concentration has grown too large is risky."
He said, "Although there was a sharp correction, the index achieved a first rebound thanks to currency stabilization and inflows of foreign buying," adding, "The next move is likely to appear as sectors sidelined by concentration start to mean-revert."
The first catalyst cited for a small and mid-cap rebound was the regulation of single-stock leveraged ETFs. As financial authorities raised investment thresholds such as minimum deposit requirements and trading units, the channel for new money to concentrate in top market-cap names has narrowed compared with before.
Na said, "Since the launch of single-stock leveraged ETFs, structural and mechanical concentration has emerged beyond investor preference," adding, "After access criteria were adjusted and new inflows decreased, the pipeline that had focused funds on the big two also narrowed."
The return of foreigners to the KOSDAQ is also worth noting. Even last week, when circuit breakers were triggered repeatedly in both markets, foreigners recorded net buying in the KOSDAQ market for four straight trading days. Since May, when individuals turned to net selling on the KOSDAQ, foreigners' cumulative net purchases have exceeded 4 trillion won.
Na said, "Industries and stocks that were sidelined by concentration now clearly have price appeal."
Policy expectations in the second half could also support small and mid-caps. If policies continue to encourage undervalued companies to enhance corporate value and to improve the structural fundamentals of the KOSDAQ market, previously neglected stocks could be re-rated.
Na said, "There are concerns about overzealous sorting of the wheat from the chaff, but it will have a positive effect on boosting market credibility," adding, "We should note that the drivers of concentration are being limited, participants are returning, and second-half policy moves could add to this."