After the authorities' regulations on the single-stock leveraged ETF (exchange-traded fund) market took effect, trading by not only individual investors but also foreign investors plunged.
At first, the market expected that because the regulations targeted individual investors, the scale of foreign trading could be maintained to some extent. But as foreign trading plunged along with individual trading, some noted that foreign trades had been aiming for arbitrage by exploiting gaps and price volatility caused by frequent trading by individual investors.
According to the Korea Exchange (KRX) on the 20th, the average daily transaction value of 14 single-stock leveraged ETFs was 928.59 billion won from May 27, when the products were first launched, to July 30. From July 31, when the regulations took effect, to Aug. 18, the average daily transaction value was 911.3 billion won, a 90.2% plunge from before the regulations.
The financial authorities raised entry barriers for individual investors in single-stock leveraged ETFs starting July 31. The basic margin deposit, previously 10 million won (including substitute securities), was increased to 30 million won in cash.
In particular, an analysis of trading volume by investor type for four flagship products (KODEX and TIGER Samsung Electronics and SK hynix single-stock leveraged) showed that foreign trading volume (total of buys and sells) plunged 93.7% to 96.3% after the regulations. That is similar to the decline for individuals (95.2% to 96.7%).
For the TIGER Samsung Electronics single-stock leveraged product, which saw the biggest drop, foreign trading volume fell 96.3% to 89 million units after the regulations from 2.426 billion units before. Individual trading also plunged 96.7% to 31 million units from 935 million units.
For the KODEX Samsung Electronics single-stock leveraged product over the same period, foreign trading volume fell 95.6% to 154 million units from 3.515 billion units, and individual trading decreased 96.2% to 93 million units from 2.421 billion units.
Changes in trading volume were similar for single-stock leveraged products with SK hynix as the underlying asset. Trading by foreigners and individuals each fell by around 93% to 95%.
The industry pointed to the exit of foreign ultra-high-speed and high-frequency trading (HFT) forces as the reason even foreign trading volume plunged. As individual investors' trading decreased, both liquidity and price gaps in leveraged ETFs narrowed, reducing short-term arbitrage opportunities.
Because leveraged ETFs track twice the underlying asset's daily return, intraday price swings are very large. When individual investors' buying and selling rush in, momentary gaps can arise between net asset value (NAV) and the market price. When these gaps occur, foreign HFT players seek profits by buying and selling the ETF while hedging risk using the underlying asset or related derivatives.
An official at a securities investment firm said, "If leveraged ETFs had been promising investment destinations that attracted foreigners, foreign trading should have held up even after the individual regulations," and added, "Foreign arbitrage algorithms that targeted the liquidity and price gaps created by individuals' fervent buying and selling left the market as soon as individuals' hands were tied."
In the market, some criticize that only foreign arbitrage players filled their coffers, and with liquidity dampened by belated regulations, the damage has been passed on intact to individual investors.
An official at a domestic asset management firm said, "Foreign players used Korea's single-stock leveraged ETFs as an 'risk-free ATM' by targeting the massive liquidity and momentary gaps (NAV differences) created by individual investors," and added, "It is no different from the financial authorities having set the stage without any anticipation of the information and infrastructure imbalance between foreign HFT forces deploying high-performance algorithms and individual investors."