First 'Big Step' in 22 Years... Could Signal Foreign Investor Exodus

When US-Korea Interest Rate Inversion Occurs, Currency Arbitrage Appeal Declines
Dollar Outflow Inevitable
"Big Step Already Priced In, Foreigners Returning"
"Concerns Over Additional Big Step Possible"

[Asia Economy Reporter Kwon Jae-hee] As the U.S. central bank, the Federal Reserve (Fed), implemented a 'big step' (a 0.5% point increase in the base interest rate) for the first time in 22 years, attention is focused on whether this will spur foreign investors to withdraw funds from the domestic stock market. If the U.S. base interest rate is higher than the domestic base interest rate, it can also affect the exchange rate, increasing the possibility of foreign investors exiting the Korean stock market. Since concerns about the big step have already been priced in, it is expected that a large-scale additional outflow of foreign funds will be difficult. However, worries coexist as the possibility of further big steps remains open due to a higher debt ratio compared to the past and a high inflation environment.

On the 5th (local time), the Fed raised the base interest rate by 0.5 percentage points at the Federal Open Market Committee (FOMC) regular meeting held on the 3rd and 4th (local time). This is the first big step in 22 years since a 0.5 percentage point increase in May 2000. Contrary to market concerns, the New York stock market's three major indices (Dow Jones 2.81%, S&P 500 2.99%, Nasdaq 3.19%) all closed higher, as the Fed blocked a 'giant step' (0.75 percentage point increase). However, the Nasdaq reversed and closed down 4.99% the next day, with all three indices turning negative.

As the U.S. base interest rate (0.75?1.0%) rapidly catches up with the domestic base interest rate (1.5%), the possibility of further foreign capital outflows from the Korean stock market has increased. The Fed's hike has significantly narrowed the gap between Korea's (1.50%) and the U.S.'s base interest rates (0.75?1.00%). The dollar will not outflow if the U.S. base interest rate is lower than the domestic rate. If the U.S. base interest rate is higher, the attractiveness of exchange gains decreases, causing the dollar to flow out, which ultimately affects the exchange rate and increases the likelihood of foreign investors exiting the Korean stock market. According to the Korea Exchange, the foreign ownership ratio in the Korean stock market is 31.13% (as of the 3rd), down to the level during the 2009 financial crisis (31.12%).

If the Bank of Korea does not raise interest rates at the Monetary Policy Committee meeting scheduled for the third week of May, and the U.S. announces a 0.5 percentage point hike at the June FOMC, the base interest rates of Korea and the U.S. will both be 1.5% by June.

Since concerns about the big step have already been priced in, it is expected that there will not be a large-scale additional outflow of foreign funds. Yuanta Securities diagnosed that the won-dollar exchange rate will stabilize, which can be interpreted as a signal that foreign investors will return. The KOSPI index is also approaching its bottom, and there is an expectation that it will shift to a recovery trend in the second half of the year, supporting this interpretation.

However, some concerns remain that the Fed may take additional big steps, which could further encourage foreign capital outflows. Compared to the past, debt has increased significantly, and high inflation is also a concern. The U.S. trade deficit in March surged 22.3% from the previous month to $109.8 billion, setting a record high in just one month. As of 10:37 a.m. on the 6th, foreign investors sold a net 160.7 billion won in the KOSPI. In the futures market, they also sold a net 362.9 billion won, increasing the possibility of a 'Sell Korea' scenario.

Kim Hak-gyun, head of the Research Center at Shin Young Securities, said, "Inflation caused by factors beyond the Fed's control, such as rising raw material prices due to the Russia-Ukraine conflict and supply chain disruptions from China, is a variable," adding, "The possibility of additional big steps by the Fed cannot be ruled out."

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