South Korea's Stock Market Slump: A Confluence of Currency Depreciation, Capital Flight, and Political Turmoil

South Korea's Stock Market Slump: A Confluence of Currency Depreciation, Capital Flight, and Political TurmoilCapital flows paint a worrying picture of the South Korean stock market's second-half performance. While institutional investors maintain net buying, the domestic population continues to offload stocks

South Korea's Stock Market Slump: A Confluence of Currency Depreciation, Capital Flight, and Political Turmoil

Against the backdrop of a strong US dollar this year, Asian stock markets have shown a divergence in performance. Some Asian markets have benefited from currency depreciation, resulting in gains in local currency terms. However, others, with relatively stable exchange rates, have seen some of their gains eroded. South Korea's KOSPI (Korea Composite Stock Price Index) stands out as a stark exception: the KOSPI, measured in Korean won, has fallen by 10.0% year-to-date, while its US dollar-denominated counterpart has plummeted by 18.9%, marking the worst performance among Asian markets. It's noteworthy that most of the KOSPI's decline occurred in the second half of the year. Despite a near 20% surge in the first half, all gains were wiped out in the following months. What accounts for this dramatic reversal?

Capital Flight and the Crypto Craze: A Shift in Funding Flows

Capital flows paint a worrying picture of the South Korean stock market's second-half performance. While institutional investors maintain net buying, the domestic population continues to offload stocks. Foreign investors exhibit even more pronounced pessimism. In November alone, foreign investors net sold 4.15 trillion Korean won worth of South Korean stocks, marking four consecutive months of net selling. In the first two weeks of December, a further 2.4 trillion won was dumped.

Significantly, a large portion of the capital withdrawn from the stock market by South Korean residents flowed into the cryptocurrency market. The "crypto craze" continues to heat up in South Korea. Data from the Bank of Korea (BOK) reveals that as of November, the number of domestic cryptocurrency investors reached 15.59 million, a month-on-month increase of 610,000. This translates to approximately 30% of South Korea's 51 million population engaging in cryptocurrency investments.

The average daily trading volume of South Korea's five largest cryptocurrency exchangesUPbit, Bithumb, Coinone, Korbit, and GOPAXskyrocketed from 3.4 trillion won in October to 14.9 trillion won in November, a more than fourfold increase. The public's enthusiasm for crypto investment has a long history. During the first cryptocurrency bull market in 2017, around 5% of the population participated; this rose to 10% in 2021's second bull market, and now stands at 30%. However, while the KOSPI and Bitcoin prices historically showed a positive correlation, this trend broke down completely in October. Should the KOSPI's decline be attributed to Bitcoin?

The Illusion of Strong Exports: A Closer Look

In 2023, exports accounted for a significant 40% of South Korea's GDP. As an export-oriented economy, exports serve as a key indicator of the country's economic health. Recently, exports appear to have rebounded, with the Korea International Trade Association reporting a 1.4% year-on-year increase in November, marking 14 consecutive months of growth, albeit at a slower pace. Preliminary data from the Korea Customs Service indicates further robust growth in December (12.4% and 6.8% year-on-year growth for the first 10 and 20 days respectively).

However, this apparent strength may mask preemptive exports driven by concerns about tariffs during the Trump administration. Looking at the fundamentals, South Korea's major export sectorssemiconductors, automobiles, and petrochemicalsface significant headwinds.

The Semiconductor Industry's Struggle: Waning Competitiveness and Inadequate Policy Support

First, the semiconductor industry is demonstrably weak. Domestic giants Samsung Electronics and SK Hynix primarily focus on memory chips, which constitute only about 30% of the overall semiconductor market. Compared to Taiwan, with its complete supply chain, South Korea's position in the semiconductor value chain is relatively weak. TrendForce data shows that TSMC held a 62% market share in the global foundry market in the second quarter of this year, while Samsung Electronics held only 11%, highlighting a widening gap.

The decline in South Korea's semiconductor competitiveness stems largely from insufficient government support. Unlike the US, mainland China, and Taiwan, South Korea lacks substantial government subsidies, hindering domestic chip production. Furthermore, the industry heavily relies on foreign sources for key materials, components, and equipment. Data from the Korea Customs Service reveals that more than half of the 13 semiconductor equipment sub-sectors have experienced persistent trade deficits. President Yoon Suk-yeol's decision to "decouple" from the Chinese market has severely impacted the South Korean semiconductor industry, which is heavily reliant on China. In 2023, South Korean companies' share of China's chip imports fell to 6.3%, down from over 10% previously.

Challenges for the Automotive Industry: Lagging EV Transition and Intense Competition

Second, South Korea's automotive industry is also facing stiff competition. While Korean carmakers sold over 8 million vehicles globally in 2023, representing a year-on-year increase of over 7%, their market share in the electric vehicle (EV) sector stands at a mere 9.3%. China is the world's largest and fastest-growing EV market, with total vehicle sales reaching 30.09 million in 2023, of which 31.6% were EVs. China's automotive market is nearly four times the size of South Korea's, and its EV market share is more than four times larger. Compared to German, American, and Japanese automakers that are actively adapting to Chinese consumer preferences by offering long-wheelbase versions and customized models, Korean automakers have been slow to react, exhibiting insufficient R&D efforts. Coupled with the challenges of the EV transition, Korean cars are facing increasingly difficult conditions in the Chinese market.

Downward Pressure on Petroleum Product Exports: Refinery Losses and Bearish Market Sentiment

Finally, petroleum product (refinery) exports are facing downward pressure. In November, SK Energy, South Korea's largest refiner, reported a third-quarter operating loss of 616.6 billion won ($450.2 million) in its refining business, the largest since the fourth quarter of 2022. The company cited an unfavorable macroeconomic environment, falling crude oil prices, and overall pressure on the refined products market, forcing it to maintain minimum operating rates for crude oil distillation units to avoid negative profit margins. Data from the London Metal Exchange (LME) shows that Asian refining margins fell to their lowest since the third quarter of 2022 between June and August. Currently, the market holds a long-term bearish outlook on oil prices due to the outlook for increased production capacity and waning demand, which constrains refiners' output and export prospects.

Corporate Austerity and Central Bank Rate Cuts: Intensifying Downward Economic Pressure

The latest survey on corporate business outlook for 2025 by the Federation of Korean Industries shows that 65.7% of surveyed companies have formulated plans for next year, with 49.7% adopting an "austerity" approach due to widespread concerns about export conditions. This is the highest level since the 2019 survey. The Bank of Korea (BOK) indicates that it will implement further interest rate cuts in 2025 to alleviate downward economic pressures. This move, in the face of adverse exchange rate conditions, further highlights the weakness of the South Korean economy.

Political Turmoil: Exacerbating the Situation

Recent political turmoil, including a near-emergency declaration by the president, has added further weight to an already weakened economy. On November 29th, the National Assembly's Budget Settlement Committee forced through budget cuts, eliminating special activity funds for the presidential office, prosecution, inspection, and police, and significantly reducing government emergency reserves, totaling 4.1 trillion won. This could effectively paralyze the Yoon Suk-yeol administration due to funding shortages. The subsequent near-emergency declaration on December 3rd escalated the conflict between the executive and legislative branches. This budget dispute reflects the severe fiscal pressures South Korea has faced in the past two years. The Yoon administration's 2023 tax cuts for the wealthy led to the largest tax revenue reduction in South Korean history. The Ministry of Economy and Finance's settlement report shows that total tax revenue in 2023 was 497 trillion won, a decrease of 77 trillion won compared to the previous year. This has been criticized as "robbing the nation to enrich the wealthy". With a significant fiscal deficit (52.89 trillion won in September, representing 2% of nominal GDP), the government even cut the research and development budget by 15% the first such cut since 1991. The impeachment of President Yoon Suk-yeol on December 15th and the subsequent resignation of the ruling party chairman on December 16th further destabilize the political landscape, potentially exacerbating capital flight and economic uncertainty.