Foreign capital exits, retail investors snap up, JPMorgan details the capital battle behind the South Korean stock market turmoil
- Core View: The South Korean stock market is undergoing a structural split in capital flows, characterized by an involuntary outflow of foreign funds constrained by size limits and a massive wave of retail buying. Against the backdrop of an AI-driven fundamental upswing, JPMorgan maintains a bullish outlook, believing that high volatility will become the market norm.
- Key Factors:
- Foreign net outflows this year total approximately $95 billion, primarily from Samsung Electronics and SK Hynix (accounting for over 90%). The main reason is that market capitalization expansion has hit the upper limits of emerging market fund holdings, constituting involuntary selling.
- Retail investors (including ETFs) have net purchased approximately $80 billion this year, becoming the main counterparty absorbing the selling pressure. Their buying capacity still exists, driven by manageable leverage levels, returning domestic capital, and wealth effects.
- The scale of leveraged ETFs has expanded to $50 billion, causing the ratio of VKOSPI to VIX to surge to around 5 times (approximately 1 time normal levels). Gamma imbalances exceed $1 billion, structurally elevating market volatility.
- JPMorgan has raised its KOSPI baseline target to 12,500 points, recommending adding positions on pullbacks. Core bullish logic includes the upward AI cycle, corporate earnings growth, and corporate governance reforms.
- The AI narrative faces short-term disruptive factors (such as token pricing concerns and policy uncertainty), but capital expenditure growth for hyperscale cloud providers exceeds that for semiconductor equipment, supporting profit margins for memory chips.
- Over the next three years, direct taxes from the two major memory companies could exceed $350 billion (South Korea's foreign exchange reserves are approximately $427 billion), demonstrating that AI benefits have already generated substantial real-world wealth effects at the macroeconomic level.
Original Author: Zhao Ying
Source: Wall Street CN
South Korea's stock market is experiencing a rare structural split in capital flows: foreign investors are recording historic net selling, while retail investors are stepping in to absorb a comparable volume. This tug-of-war between these two forces, set against a backdrop of fundamentals driven upward by the AI wave, is collectively shaping the unique ecosystem of Asia's most volatile market.
According to a report from the Chase Trading Desk, JPMorgan's latest strategy report on Korean equities, released on June 25, states that foreign investors have net sold approximately $95 billion from the Korean stock market so far this year, a pace that could easily break the record for annual foreign outflows from any single Asian market. Simultaneously, the cumulative net buying by retail investors (including local ETF purchases) has reached about $80 billion year-to-date, making them the primary force supporting the market.
JPMorgan maintains a bullish stance on the Korean stock market, raising its KOSPI 12-month base/bullish/bearish scenario targets to 12,500/15,000/8,000 points respectively, and advises investors to add to positions on any pullbacks and maintain maximum exposure.
This pattern of capital flow tug-of-war is unlikely to reverse in the short term. However, the fundamental upside driven by AI, the national wealth effect from corporate earnings growth, and the potential for valuation recovery through corporate governance reform still constitute the core bullish logic for the Korean stock market. South Korea remains JPMorgan's most preferred market in Asia.
Foreign Selling Forced: Size Constraints Trigger Involuntary Sell-off
The foreign capital outflow from South Korea is characterized as "non-discretionary" rather than active bearishness. The core reason is that the market capitalization of the two major memory chip giants, Samsung Electronics and SK Hynix, has expanded sharply, hitting the holding limits for emerging market (EM) long-only funds. This size constraint has affected approximately 10% of foreign holdings in each of these two stocks, forcing fund managers to continuously reduce positions as share prices rise.
Data shows that over 90% of the total foreign capital outflow this year originated from these two memory stocks. This structural characteristic implies that as long as memory stocks continue to outperform the regional benchmark, the benchmark constraint for EM funds will persist, and the pressure from foreign capital outflows will continue.
It is worth noting that despite the continued net selling by foreign investors, the actual proportion of foreign holdings in Korean stocks has increased significantly compared to the beginning of the year – the reason being that the rise in stock prices has far exceeded the size of the sell-off. Currently, the two major memory stocks together account for over two-thirds of foreign holdings in South Korea. In contrast, global funds (non-EM specific) are significantly underweighted in South Korea. In client surveys, many large real-money accounts report insufficient exposure to South Korea, indicating a need to add positions.
Leveraged ETF Expansion: Structural Rise in Volatility
The abnormal surge in volatility in the South Korean market is closely related to the explosive growth of leveraged ETFs, both domestic and international. The assets under management (AUM) of leveraged ETFs targeting Korean assets have grown to $50 billion, with most of the increase coming from the market's own rise.
These ETFs primarily achieve exposure through stock index futures, along with some spot positions and options, driving a significant increase in single-stock futures open interest. At the same time, the demand for "crash protection" from these ETFs has also pushed up implied volatility – the VKOSPI to VIX ratio is currently near 5x, compared to a historical normal level of around 1x. The scale of Gamma imbalance related to leveraged ETFs has now exceeded $1 billion, significantly amplifying two-way market volatility.
Furthermore, the Korea Exchange and clearinghouse have raised capital requirements in response to higher trading volumes, leading to increased financing costs for large-cap stocks, and some brokerages face difficulties in managing concentrated exposures. Given the widespread adoption of these instruments both domestically and internationally, the scale of leveraged ETFs is unlikely to contract materially in the short term, making high volatility a structural norm for the South Korean market.
Retail Investor Buying: Room Remains, Leverage Risk is Manageable
Against the backdrop of persistent foreign capital outflows and institutional investors (pensions) selling into strength for rebalancing, retail investors have become the primary buyers in the South Korean stock market. Data indicates that if NXT platform trading and ETF purchases are included, the net buying scale by retail investors this year amounts to approximately $80 billion.
There is still room for sustained retail buying, for three reasons: First, although leverage levels in margin balances and options trading have risen, they remain low relative to overall market capitalization and client deposits. Second, South Korean retail investors are just beginning to repatriate their overseas stock holdings back to the domestic market, leaving significant room for capital to return. Third, with income growth and the ongoing wealth effect from stocks, residents' willingness to invest in equities is likely to increase further, especially given the constraints on real estate investment.
However, the retail share of market turnover has retreated slightly from its average of 65% over the past two months, while pension fund participation has increased. Nevertheless, pensions remain net sellers overall as they seek to maintain target portfolio weights.
AI Narrative Disruptions: Cyclical Fluctuations Don't Change Uptrend
The fundamentals of the South Korean market are highly correlated with the AI cycle, which remains on a strong upward trajectory. Analysts maintain a constructive view of the memory cycle as "at a high level for longer," and believe the earnings of Korean tech stocks have higher elasticity compared to their global peers.
However, periodic disruptions to the AI narrative are inevitable. JPMorgan lists five factors that have recently caused market volatility: First, signs of optimization at the user level reducing token consumption, raising concerns about token pricing. Second, positive market reception for China's Zhipu AI's GLM 5.2, reigniting competitive concerns. Third, policy uncertainty stemming from the latest export control regulations. Fourth, sustained supply pressure from stocks and bonds. Fifth, the potential reopening of the Strait of Hormuz, which could alleviate pressure on related markets and sectors.
As long as the growth rate of capital expenditure by hyperscale cloud providers continues to outpace the growth rate of capital expenditure on semiconductor equipment, the supply-demand imbalance will persist, thereby supporting the profit margins of memory chip manufacturers.
The AI-related earnings for South Korean memory chip companies are already large enough to have a tangible impact on the macroeconomic level. It is estimated that over the next three years, direct taxes (including corporate income tax) paid by the two major memory companies to the government could easily exceed $350 billion, and this figure would be even larger if personal income tax on employee bonuses is included.
For context, South Korea's current total foreign exchange reserves stand at approximately $427 billion, and its total government debt is around $1 trillion. This wealth effect will provide the South Korean government with ample resources for long-term physical and financial investment, social infrastructure construction, and strategic planning for the AI era.
