[Good Morning Stock Market] Should Korea Receive a Discount Compared to Emerging Markets?

[Asia Economy Reporter Eunmo Koo] Recently, despite weak corporate earnings forecasts, stock prices have continued to rise, sparking controversy over the overvaluation of the domestic market. Korea has traditionally received a valuation discount (stock price level relative to earnings) even among emerging markets, but there is an analysis that this trend may change going forward. This is because the influence of leading sectors in the Korean market such as IT, communication, and healthcare is expanding, causing the gap in profit growth rates between Korea and other emerging markets to widen.

◆Jinwoo Lee, Researcher at Meritz Securities=The controversy over stock price overvaluation is an expected step. Corporate earnings forecasts are weak, but stock prices have risen first. The U.S. stock market is at 22.5 times the 12-month forward price-to-earnings ratio (PER), the highest since the IT bubble, while Korea is at 12.6 times, surpassing the previous high of 12 times during the financial crisis.

There are two reasons. One is that typically, when an economic shock occurs, there is a lag between earnings forecasts and stock prices, and considering the added social controls now, that gap can be even larger. The other is a structural change in the stock market landscape. The emergence of high PER sectors (untact, bio, secondary batteries, etc.), which were rare before, is raising the absolute valuation level of the stock market. If a PER of 12 times was the upper limit of valuation in the domestic stock market in the past, now that standard needs to be set higher.

So, how far should the expansion of valuation be allowed? It is difficult to estimate precisely given the rapidly changing stock market landscape, but narrowing the scope of analysis, one standard can be set: the 'emerging markets.' Even within emerging markets, Korea has consistently received a valuation discount. The average PER discount rate since 2005 is 11.8%. This means that if emerging markets trade at a PER of 10 times, Korea has traded at an average of 8.9 times. Currently, emerging markets have a PER of 14.2 times, and Korea 12.6 times, receiving about an 11.5% discount.

However, it is worth considering that this trend may change in the future. If the current structure continues, it would not be surprising for the Korean stock market to rise to the valuation level of emerging markets rather than receiving a discount within emerging markets.

The reason is as follows. The valuation discount rate of the Korean stock market compared to emerging markets is well explained by the gap in 'future earnings growth.' If Korea is expected to have a higher earnings growth rate than emerging markets, the valuation discount rate of the Korean market has rapidly decreased, and conversely, it has expanded when the opposite is true.

Currently, the gap in earnings growth rates between Korea and emerging markets is the largest since 2005. Korea's expected earnings growth rate over the next 12 months is 37%, while emerging markets are forecasted at only 7.4%. Although there is room for adjustment in absolute terms since this is consensus, Korea's comparative advantage over emerging markets is clear.

Looking at the influence of leading sectors, the IT + communication + healthcare sectors account for 52% of the domestic stock market, while emerging markets are at about 25%. Of course, it should be noted that companies like Alibaba in China are classified as consumer discretionary rather than communication, but compared to our market, it is still lower. Emerging markets still have a structure where finance exerts the greatest influence.

Noteworthy is the valuation trend for leading sectors. The financial sector is experiencing valuation discounts in both emerging markets and Korea, with the discount being steeper in Korea. On the other hand, the communication sector, which includes untact companies, receives a stronger premium in Korea than in emerging markets. Two interpretations are possible: the valuation premium or discount for sectors with relatively strong or weak growth is a common phenomenon, and Korea is a country that reflects these changes more strongly. This is understandable since, except for a few well-known large Chinese companies related to untact, such companies are hard to find within emerging markets.

Should Korea receive a discount compared to emerging markets? At least, the justification for the discount is weakening. Ultimately, it is a matter of time, but if the valuation expansion of the Korean stock market proceeds, the first benchmark seems to be the emerging market level.

◆Kwanghyun Kim, Researcher at Yuanta Securities=The KOSPI rose 8.2% in June alone. Currently, the year-to-date return of the KOSPI is -0.1%, but based on the intraday high on the 8th, the year-to-date return briefly turned positive. This is among the top returns globally. Countries with less than a 5% decline year-to-date include Korea, the U.S., Japan, Taiwan, China, and Germany, a relatively small group, while most major global countries have recorded double-digit negative returns year-to-date.

Even looking at the rise since the end of March, the Korean stock market ranks among the top globally. Countries with higher returns than Korea during the same period include Brazil and Germany, but despite Brazil's recent surge, its year-to-date return remains low at -16.3%.

What stands out is the U.S. The U.S. failed to contain COVID-19, ranks first overwhelmingly in confirmed cases and deaths, and still reports about 20,000 new cases daily. Nevertheless, its year-to-date return is the second highest after Korea (based on the S&P 500), and its return since the end of March is also high. This contrasts with the prolonged sluggishness of the Indonesian and Indian stock markets, where recent outbreaks have been prominent.

This content was produced with the assistance of AI translation services.