Unification for Fun and Profit!



The unification mania that is sweeping Seoul has left a lot of us scratching our heads, but I suppose it should not have been much of a surprise that someone in the financial services industry would try to cash in. Last week Yonhap ran a story by Kim Eun-jung titled “Investors bet money on 'unification fund' despite uncertainty in N. Korea” showing that two South Korean mutual funds touting unification themes had attracted positive investor inflows last month, despite the mutual fund sector as a whole exhibiting outflows.

According to the article:

“Since its debut on March 13, 'Shinyoung Marathon Unification Korea Stock Fund' by Shinyoung Asset Management Co. raised 9.1 billion won until March 23. It drew a total investment of 32.9 billion won in the last two months. The fund recorded a 7.02 percent profit in the past 10 weeks, which is higher than the three-month average interest rate of 2.87 percent for 2,604 fund products analyzed by KG Zeroin... Its portfolio focuses on infrastructure, food and garment companies operating in the inter-Korean industrial complex in North Korean border city of Kaesong and other value shares that can benefit from expanded domestic market.”

Imitation is the sincerest form of flattery, and on 15 May Hi Asset Management Co. jumped into the market with its "Hi Korea Unification Renaissance Stock Fund" on May 15, which pulled in 1.1 billion won in the seven trading days before Kim’s article appeared. It had the misfortune of launching into a dip, but the fund has fallen by only 0.4 percent, less than the 0.95 for an index of small caps.

The quotes from the managers were largely incomprehensible manager-speak jargon:

“'The fund is aimed at unification, and it bets on value shares,' said Huh Nam-kwon, chief investment officer at Shinyoung Asset Management. 'Under the long-term investment policy, the fund formed a portfolio with low-valuation stocks. As a result, it yielded a high return'” (translation: we plan to buy low and sell high).


"'We plan to retain the earnings rate by investing in value shares that have long been sidelined despite their hidden values, selecting items according to stages of unification preparations,' Kim Young-jin, a senior asset manager at Hi Asset Management, said. 'We aim to make profit under the mid- and long-term policy' (translation: we’re timing the political market). The article continues: "While some industry watchers are cautious over the theme funds that depend heavily on government policy that can easily be swayed by political situations and external risks, other say the new products are part of financial institutions' efforts to find future growth momentum.

"'At a time when South Korea's export market remains sluggish without clear momentum, I think the investor interest in unification funds is a positive phenomenon,' said Park Sung-hyun, a chief strategist of Hanwha Investment and Securities Co. 'As North Korea, which pursues both nuclear weapons and economic development, has faced its limit, it needs to find a breakthrough. So has South Korea as it is seeking sources for economic growth. So there is room for the two Koreas seek cooperation in the future.'”

In other words, in a world where unconventional monetary policy has driven interest rates to zero, investors are desperate for yield. Combined with the uncertain prospects in South Korea’s export sector due to the won’s rise, we’re so desperate that we’ll exploit Park Geun-hye’s political cover and take a flyer on our crazy cousins in the North.

At this point, one needs some kind of external validation for what might be otherwise regarded as a sort of desperate maneuver, so Kim disinters the ever-polarizing hedge fund pioneer Jim Rogers, last seen in the blog being called a “bottom-feeder” by Steph Haggard:

"'The unification of South and North Korea will be possible within five years,' Jim Rogers, chairman of Rogers Holdings and Beeland Interests, wrote in his blog in February. 'The combination of South Korea's capital and technical skills, and North Korea's labor and natural resources, is likely to make Korea grow exponentially.' 'President Park's wording 'Unification is bonanza' is a great expression for investors as it highlights benefits first rather than reminding of risks related to the investment,' Park at Hanwha said. The unification fund is expected to gather more steam in the third and fourth quarters of this year based on the momentum in the short term."

OK, thus far this is a slightly cheap sneering post, so I should actually provide some value-added. What might the portfolio a “unification equity fund” look like? Well, it’s actually scenario-specific, but that’s why you pay the fund managers to manage the portfolio. For analytical traction, let’s take the simplest, though not necessarily most probable, case: non-violent collapse and absorption a la Germany. A few themes for portfolio building:

  • Traded v. non-trade goods: watch the behavior of the Bank of Korea closely. If it raises interest rates aggressively like the Bundesbank did, then the real exchange rate will appreciate, helping the non-traded sector and hurting the traded goods sector, broadly speaking. Winners: South Korean construction companies and suppliers of construction materials. Losers: small, export dependent firms.
  • Mergers and acquisitions: be on the look out for South Korean firms that could benefit from taking over facilities in the North, either to achieve synergies or to shut down potential competitors.
  • Natural resource plays: One thing we know North Korea has is natural resources. Look for producers and consumers of natural resource products which would now have enhanced access to feedstocks in a unification scenario. Mining firms, for sure, though this is not a large sector in South Korea, but also South Korean food processing firms.
  • And lastly, if things do not go quite as smoothly as in the German case, producers of tear gas and light armaments could be a good bet.

Witness to Transformation: news you can use.

So where’s my 2 and 20?


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