Why South Korea is a value buy in the Pacific Basin
North korean dictator Kim Jong Un runs one of the world’s most repressive totalitarian regimes and his nuclear threats against Guam, South Korea and Japan have created a geopolitical nightmare in Northeast Asia. North Korea is a joke economy, a state that starves and murders its own people. Yet its nemesis South Korea is a financial fairytale, one of the most spectacular rags-to-riches stories in the history of Asian capitalism. The latest North Korean crisis, I believe, has created an investment gold mine to accumulate shares in country once known as the Hermit Kingdom and now known as the Republic of Samsung!
Fiscal stimulus, a current account surplus and a treaty with Uncle Sam make South Korea a no brainer emerging market for me. South Korea is the Pacific Basin’s cheapest stock market, trading at 9.8 times earnings and just one times price to book value. Unlike “cheap” markets in the Gulf also trading at book value, South Korea is unquestionably not a value trap or a sovereign junk (non-investment grade) credit. Valuation alone is not a reason to own South Korea, given the scary geopolitics of the 38th parallel, the historic tendency of family run conglomerates (chaebols) to stiff minority shareholders with miniscule payouts, self-serving deals and lousy corporate governance, even by the modest standards of the emerging markets. Yet the business culture of South Korea is now in ferment.
The new centre-left government of President Moon Jae-in has opted for fiscal stimulus, higher minimum wage, expansion of health insurance coverage and easier consumer credit. Samsung Electronics’ share buybacks and dividend payout hikes is the tip of the iceberg for an embryonic shareholder value revolution. This is a bullish omen for valuation metrics in the South Korean stock market. It is no coincidence that South Korean shares rallied when Samsung’s vice chairman was jailed for bribing disgraced ex-president Park and her cronies. Governance in the chaebols is a catalyst for a valuation rerating in Seoul.
SK Telecom is one of Asia’s most profitable and technologically innovative wireless carriers in the Pacific Basin. With its four per cent dividend yield, its five per cent EPS growth and my won macro view, I see no reason why SK Telecom cannot provide a 12-14 per cent total return for US dollar-/UAE dir ham de nominated investors in the next 12 months. Investors with a higher capacity for risk can also bottomfish among the battered midcap component suppliers to Apple and Samsung. SK Hynix, one of Asia’s great semiconductor manufacturers, has also been slammed this summer. South Korea’s major banks are also beneficiaries of a supplementary budget and the rise in loan growth. The arrest, conviction and five-year jail sentence of vice-chairman and company heir Jae-Yong Lee has not had a negative impact on Samsung Electronics share price. This chaebol (conglomerate) generates 20 per cent of South Korea’s GDP, contributes 24 per cent to the market capitalisation of the Seoul stock market index and is one of the Pacific Basin’s most diversified, most profitable IT/electronics firms. The “miracle on the Han River” that is the South Korean economy would be unthinkable without Samsung Electronics. Despite Lee’s bribery scandal and the Galaxy Note 7 smartphone battery disaster, Samsung shares have soared 40 per cent in the past 12 months, outperforming the Kospi index by 2,500 basis points. It is impossible to invest in South Korea without a subtle grasp of the myriad macro/technology trends that move Samsung.
Is the bull-run in Samsung over? No. The Galaxy Note 8 is a gamechanger, with dual cameras, highresolution screens and long-life batteries (which hopefully will not catch fire!). Financial markets price in 17-18 million units sales in 2017-18, a target Samsung will achieve. In response to Wall Street hedge funds and activist shareholders, Samsung has also raised its share buybacks and dividend payout ratio. Samsung Electronics trades at 2.5 million won as I write. I would not be surprised to see it trade at three million won in the next twelve months, thanks to multiple catalysts for the shares.
The South Korean won is also one of Asia’s hard money currencies up six per cent in 2017 despite the recurrent threats from the Pyongyang regime. South Korea’s stellar current account surplus and fiscal stimulus means the appreciation trend in the won is not done yet. A strong won, a 9.8 times earnings multiple, 15 per cent EPS growth, rising dividend payout ratio, accumulation by offshore funds and an accommodative central bank all make South Korea the value buy in Asian equities.