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2022 Korean Market Outlook: The Year of the Tiger Poses both Risks and Hopes

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By Lee Sung Soo and Sung Ah Hwang - New Year 2022, the Year of the Tiger, is here. Investors have a lot of anticipation for 2022, as they have a lot of regret for the stock market in 2021. But while 2022 can be seen as the yea rof the tiger and a time to be aggressive, from another point of view, it looks like it will be the year that threats are lurking for investors, waiting to pounce.

Returning liquidity should boost the stock market to start 2022

In the second half of 2021, the Korean stock market experienced a heavy loss, with the leading KOSPI index down 9.7%, as individual investors' liquidity decreased significantly due to domestic institutional issues: weakening sentiment, large shareholder transfer tax avoidance, passive liquidation of debt investments due to suppression of household lending, year-end dividend avoidance, and year-end fund demand.

It is expected that these challenges will be resolved in early 2022 as the natural effect of a fresh year and tax slate. The funds of large investors who evaded the large shareholder transfer tax will flow back into the stock market, and the passive liquidation of debt investment funds due to the suppression of household loans is expected to improve the burden of household loans, even for a short time, in the new year.

At the very least, 2021’s liquidity headwinds should no longer be headwinds. As liquidity flows back into the market in 2022, there is reason to expect a small tailwind for valuations. In the end, we can predict that most of the small and mid-cap stocks that suffered the frost in the second half of last year will benefit from the liquidity inflow.

But throughout 2022, threats lurk for investors at every turn

In 2022, investors can look forward to the stock market rebounding, but on the other hand, the risk factors should not be overlooked. There are many potential risks, but there are two especially serious pieces of potential bad news to watch. The first potential downside is global monetary tightening and its side effects. Already at the FOMC in December, the Fed has accelerated its tapering rate from $15 billion per month to $30 billion per month, with QE expected to end in March next year. And it seems likely that interest rate hikes will follow almost immediately after that.

[Long- and short-term interest rate difference between 10-year US Treasury bonds and 2-year Treasury bonds since 2012]

Often, near the final stage of tapering or when the key interest rate reaches 1% or so, the difference between the long-term and short-term US Treasury yields tends to reverse. If the yield curve inverts, market participants have learned from the summer of 2019 case and other historical cases, and that tends to trigger market volatility. At the same time, continued global economic recovery can override any headwinds from the yield curve and interest rates, which would postpone the onset of any sort of downturn or crisis.

The second potential negative factor for the Korean market specifically is that investor demand may emerge as a problem in 2022 due to the pending financial investment income tax, which will be implemented in 2023.

The defining trait of the 2020s stock market so far has been the active and increased participation of individual investors. That power of new investors helped drive the KOSPI index to the 3000 points level. The history of the stock market will record this as the Donghak Ant Movement. No one can deny that individual investors drove the Korean markets to all-time highs. In 2020 alone, the net increase in personal investment funds (individual net sales + increase or decrease in customer deposits) reached 100 trillion won ($83B USD), and the net increase in personal investment funds in 2021 exceeded 70 trillion won ($58B). It was the largest private liquidity inflow in history.

However, there is an issue that makes individual investors uncomfortable, and that is the financial investment income tax system that will be implemented in 2023. Many individual investors plan to invest in stocks until the financial investment income tax comes into effect, and withdraw funds by 2023. So the liquidity that might flow out of the market by the end of the year, before the new system is implemented, could be quite large. This trend could lead to market volatility and be the reverse of the 2020 Donghak Ant Movement. This reverse ant march might overwhelm any tiger momentum.

Still, reasons to not be too bearish about the 2022 stock market

While it is true that several risks await the stock market in 2022, on the other hand, a positive January effect awaits as well, and the global liquidity loosened after the initial onset of the pandemic in 2020 could trigger a global economic boom like in the mid-2000s. In other words, there are downside events ahead, but on the other hand, upside surprises can emerge like the famous chakhogapsa (tiger hunters) of yore to corral the risks and push the market higher.

These risks are also already known, which means they are often priced in. Even so, rather than overlooking potential downsides like those mentioned above, how about thinking about the market like this in 2022? If 2020 was a strong positive argument because of the individual retail investor movement, and 2021 suffered in the second half due to liquidity issues, 2022 is a year where the market faces both possibilities. Investors who are mentally prepared can make strong investments even in the ups and downs of a volatile stock market.

Read also: 2022 Japan Market Outlook: A Consumption Rebound, but Slow and Steady Growth

See our full 2022 outlook series here.

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