[MarketING] "Bank of Korea Signals End of Tightening Cycle"... Positive Impact on Investor Sentiment

KOSPI Rebounds in One Day, Recovers to 2430 Level

[Image source=Yonhap News]

[Asia Economy Reporter Song Hwajeong] The KOSPI rebounded after a day and regained the 2430 level. The inflow of bargain buying following the previous day's decline and the decision to keep the base interest rate unchanged pushed the index up.

KOSPI Closes Higher on Base Interest Rate Freeze

On the 23rd, the KOSPI closed at 2439.09, up 21.41 points (0.89%) from the previous day. The KOSDAQ ended the session at 783.28, rising 4.77 points (0.61%). The KOSPI expanded its gains to over 1% after the rate freeze decision but trimmed its gains before the close.

Institutional and foreign buying led the KOSPI rebound. On that day, institutions net bought 291.8 billion KRW and foreigners net bought 10.3 billion KRW in the KOSPI market. Conversely, individuals sold off 332.1 billion KRW.

Kim Seokhwan, a researcher at Mirae Asset Securities, analyzed, "Despite the rate freeze decision, the possibility of additional hikes in the future, and the strengthening of the dollar following the U.S. Federal Open Market Committee (FOMC) minutes in the U.S. stock market the previous day, the KOSPI rose nearly 1% due to net buying by foreigners mainly in futures and arbitrage trading by institutions."

The rate freeze appears to have eased investor sentiment that had been subdued by concerns over U.S.-originated tightening. At the February meeting of the Bank of Korea's Monetary Policy Committee held that day, the base interest rate was kept at the current level of 3.50%. This halted the rate hike streak that had continued since August 2021 for about a year and a half.

Although the Monetary Policy Committee left room for further hikes, the market atmosphere leans toward the end of rate increases. In the monetary policy statement, the committee emphasized that the current policy remains under a tightening stance, stating, "It is necessary to focus on price stability and continue the tightening stance for a considerable period while assessing the need for additional hikes."

Gong Dongrak, a researcher at Daishin Securities, said, "Even though this is a period of readjustment of expectations regarding the U.S. Federal Reserve's (Fed) moves, the decision by the Bank of Korea to freeze the base rate while adhering to the previously presented forward guidance is evaluated as signaling the end of the tightening cycle." He added, "Of course, given the persistent uncertainties surrounding inflation, the possibility of additional hikes has not been ruled out, but this is seen more as a fine-tuning rather than a trend response." He further stated, "The Korean base rate hike cycle has ended, and the current base rate of 3.5% is expected to be maintained without additional hikes through the end of the year."

Jo Younggu, a researcher at Shin Young Securities, said, "The February Monetary Policy Committee meeting was a well-packaged event that supplemented the overly accommodative message from January and considered the prolonged tightening burden of the Fed and uncertainties in the foreign exchange market." He added, "Unless there is a significant deviation in inflation forecasts or a sharp rise in the exchange rate, the forecast to keep the rate at 3.5% until the end of the year remains."

Kim Gijung, a researcher at IBK Investment & Securities, analyzed, "Considering that domestic and external uncertainties still remain at the point where the rate hike phase is nearing its end, keeping the possibility of 3.75% open is a natural measure." He added, "Especially with the Fed's tightening burden reemerging and no Bank of Korea rate decision scheduled in March, the authorities had no choice but to take a hawkish stance until the FOMC meeting." Kim further stated, "If the Fed's tightening burden eases and expectations for China's reopening demand diminish, no further rate hikes are expected, so the terminal rate (final interest rate level) is still expected to be 3.5%."

Possibility of Widening Policy Rate Differential Between Korea and the U.S. Due to Rate Freeze

This rate freeze has increased the likelihood of a wider policy rate differential between Korea and the U.S. However, opinions suggest that the widening differential is unlikely to exert additional upward pressure on the KRW-USD exchange rate.

Park Sanghyun, a researcher at Hi Investment & Securities, explained, "Considering the current policy rate differential between Korea and the U.S. is 1.25 percentage points, there is potential for it to widen up to 2 percentage points." He added, "This is because the Fed is likely to implement three additional 25 basis point (1bp=0.01 percentage points) rate hikes by June."

Park said, "Market interest rates already reflect a differential of about 2 percentage points. The spread between the 1-year USD LIBOR rate and the 1-year Korean government bond yield is already around 2.03 percentage points, which corresponds to the expected policy rate differential level if Korea maintains its rate freeze and the Fed hikes rates further by June." He explained that since the market interest rate differential between Korea and the U.S. has already largely priced in the maximum policy rate differential, unless the Fed makes more aggressive additional hikes beyond market expectations, the market interest rate differential is close to its upper limit.

The possibility of a reemergence of the "King Dollar" phenomenon is considered low. Park said, "Although the dollar rebounded due to renewed uncertainty about the Fed's rate hike cycle, there is a high possibility of returning to a trend of weakness, which is expected to help buffer the risk of the policy rate differential between Korea and the U.S."