(Bloomberg) -- South Korea’s martial law decree was short-lived but the implications for global investors in the region may roll on for some time.
The shock imposition of the measures late Tuesday and their just as sudden removal risk further denting sentiment toward Asian assets already threatened by higher US tariffs. The events raise concerns about the country’s sovereign-debt rating and the won faces elevated-volatility if the fallout results in a lengthy period of political gridlock.
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“It took all markets by surprise,” said Luis Estrada, a strategist at RBC Capital Markets in Toronto. “I don’t see confidence coming back immediately given the combination of the low liquidity season into year-end, and the risks that South Korea bears on potential contagion from Trump’s tariffs on China early in 2025.”
Korean President Yoon Suk Yeol astonished the nation, lawmakers and investors by declaring military rule in a move he argued would stop the opposition from paralyzing his administration. The decree was dropped within hours but the ramifications are still unfolding. The main opposition party said Wednesday it will seek to impeach the president for treason.
Rising political tension in South Korea is the last thing investors need in a region already in the crosshairs of US President-elect Donald Trump’s tariff threats. The developments may cause funds to re-examine risk premiums across the rest of Asia, especially given Korea was considered relatively immune to such a disruption.
Korean assets were rocked by the news.
An exchange-traded fund tracking the nation’s shares slid more than 7% in US trading hours after the headlines came out, while the won weakened as much as 2.8% in overnight trade. The Kospi index fell from the open Wednesday, though the currency reversed Tuesday’s losses after the financial authorities vowed to provide unlimited liquidity.
A gauge of the won’s one-month volatility against the dollar jumped to as high as 10.96% Tuesday, from 8.51% the day before.
“This looks like a political gamble gone wrong — I won’t be adding to Korea here in this uncertainty,” said Sat Duhra, a money manager at Janus Henderson Investors in Singapore.
Duhra said there are already many investors who avoid the nation due to the so-called Korea Discount, and the latest news will only reinforce that idea. “I think foreigners will stay away. There is a possible impeachment process, potentially a new president and macro is hardly exciting.”
The Korea Discount refers to the fact that the nation’s stocks are typically priced at lower valuations than their global peers.
BNY argues the rapid about-face by Yoon is far from the end of the issue.
The next immediate step will be a vote on the impeachment process in parliament at the end of the mandatory waiting period of at least 24 hours.
“Volatility as a result of political events in South Korea is ongoing and unlikely to end even as the imposition of martial law appears to have been short-lived,” said Bob Savage, head of markets strategy and insights at the financial services firm in New York. “The split between parliament and the president and expectations of a US trade shift will test South Korean policymakers.”
Some see the political crisis in Korea even adding to the case for a rating downgrade.
“We are concerned that these events could impact South Korea’s sovereign credit rating,” Min Joo Kang, a senior economist for South Korea and Japan at ING Bank in Seoul, wrote in a research note. “The situation is quite fluid, and it is possible that the rating outlook could change.”
A prolonged period of political conflict that impacts economic activity and leads to work stoppages would be negative for Korea’s credit rating, Moody’s Ratings said Wednesday.
Jolted Awake
Equities trader Shawn Oh was sound asleep in Seoul when the news broke and was jolted awake by alerts on his KakaoTalk messenger app. Everyone wanted to know what to do with their assets, he said.
“I’d be buying the dip — nothing big though,” said Oh, who works at NH Investment & Securities Co. in Seoul. “Political instability may rise even further.”
Yoon’s actions are “rolling out the red carpet for Lee Jae-myung,” Oh said, referring to the main opposition leader who had ran against the president in 2022.
A Lee presidency may bring some positives for markets as the current opposition leader favors closer ties with China and that could lead to higher Korean exports, he said. At the same time, the opposition may bring in an expansionary fiscal policy that would increase the deficit, he said.
Shoki Omori was typing on his laptop at around 10.37 p.m. in Tokyo when the Korean headlines flashed across his screen. His phone started ringing.
“‘What just happened in South Korea?’ was repeatedly asked,” said the chief Japan desk strategist at Mizuho Securities. “This has huge implications not just for Korea but for the rest of Asia: Japan, China policymakers will be taking in the developments seriously given the region is already in the crosshairs for Trump’s tariffs.”
Korean stocks currently have relatively undemanding valuations. The Kospi trades at about 0.8 times one-year forward estimated book value, versus 2.9 times for the MSCI World Index, according to data compiled by Bloomberg.
Wider Spreads
Others prefer to look through the volatility.
Spreads on dollar-denominated bonds issued by highly rated state-owned and private corporates in Korea widened “only marginally,” said Shamaila Khan, head of fixed-income for emerging markets and Asia Pacific at UBS Asset Management in New York. “There is potential for retracement of part of the selloff.”
For Olivier d’Assier, Lead Principal, Investment Decision Research at SimCorp, the situation isn’t as bad as it might seem given that Yoon’s political life was expected to be short-lived because of his unpopularity and opposition control of the national assembly.
“The move to declare martial law therefore reflects a bad decision from a desperate man hoping to hold on to power, but not a sign that something is wrong with the country or the financial system,” he said. “If investors thought that, the Kospi would be down 10% today.”
--With assistance from John Cheng, Matthew Burgess and Min Jeong Lee.
(Updates with additional comment.)
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