Analyse: db x-trackers MSCI KOREA TRN Index

Over the past three years, the MSCI Korea Index has been more correlated to emerging markets (e.g. 92% correlation to the MSCI Emerging Markets Index and 95% to the MSCI EM Asia Index) than to developed markets (e.g. 83% correlation to the MSCI World Index and 79% to the S&P 500 Index). However, this trend has phased off in the recent year with 1-year correlation at 95-98% both to emerging and developed markets. In our view, this makes this ETF unsuitable as a diversification tool for investors with a global portfolio.

Interestingly, the MSCI Korea Index has shown a lower correlation with the domestic Chinese indices (e.g. 31% correlation to the MSCI China A Index and 32% to the CSI 300 Index in the past 3 years; 53% and 56% respectively in the past year). These figures suggest that this ETF could offer good degree of diversification for investors with a portfolio concentrated in domestic Chinese equities.

South Korea accounts for quite a considerable weighting in some of the emerging market equity indices (e.g. 15% in the MSCI Emerging Markets Index and 25% in the MSCI Emerging Asia Index). It is worth noting that MSCI has kept South Korea under review for potential elevation to developed market status, while FTSE already considers it as a developed market in its international index. We therefore advice investors to check their existing exposure to South Korea to avoid unintentionally creating concentrated exposure in Korean equities and “emerging markets” according to the chosen definition.

Fundamentale Analyse

South Korea is the fourth-largest economy in Asia after China, Japan and India. It is an export-driven economy (e.g. exports of goods and services accounted for 56% of GDP in 2011) with solid fiscal fundamentals. However, the slowing of the global economy in 2012 has weighed on its performance. In July 2012 the Bank of Korea lowered borrowing rates for the first time in more than 3 years. The Bank cut the main benchmark rates by 25bps to 3%, while slashing its GDP growth forecast for 2012 from 3.5% to 3.0%, which would mark the slowest growth since 2009. The potential for a more pronounced growth slowdown upon further deterioration of global economic conditions is one of the main risks facing investors in the country. Besides, on a general note, investors should always remain aware that political and military tensions between South and North Korea always tend to have a negative impact on South Korea’s financial markets.

Samsung Electronics (005930) accounts for 24% of the index and it is by far its largest holding. This technology giant is a global leader in manufacturing of consumer electronics, mobile phones, memory chips and LCD panels. It has become the world’s largest handset maker with a 32.6% market share of the world’s smartphone market, followed by Apple (AAPL) at 16.9%, according to IDC. We expect the solid demand in electronic products, such as tablet PCs and smartphones, to continue driving Samsung’s profitability. However, the slowdown in global economic conditions, not to mention the severe competition in this particular marketplace and Samsung’s recent lost in a patent lawsuit against Apple, could weigh on Samsung’s earnings and share price performance. Adding together other technology firms, IT exposure accounts for 35% of the index portfolio.

Consumer discretionary is the second largest exposure of the MSCI Korea Index, accounting for 18% of its market capitalisation. This exposure consists largely of carmakers and their related business. The main exponents are Hyundai Motor (the second-largest holding of the index at 6%), Kia Motors (3%) and Hyundai Mobis (3%). Sales for these companies are highly export-driven (e.g. 66% for Hyundai and 82% for Kia for the first 7 months of 2012, according to company data).

The other three main sector exposures for this ETF are industrials (13%), financials (13%) and materials (11%). The industrials sector consists of some of the world’s largest shipbuilders, such as Hyundai Heavy Industries (009540, 2%) and Samsung Heavy Industries (010140, 1%) as well as construction and engineering firms. The financials sector consists of banks, securities and insurance firms, while the materials sector includes the steel marker POSCO (005490, the third-largest holding of the ETF at 4%) and chemical companies such as LG Chem (051910, 2%). The industrials and materials sectors are largely export-driven and so their performance would be affected by the global economy and also intense competition. As it pertains the financials sector, the highly indebted household situation of the nation is an area to be cautious on (e.g. debt-to-disposable income ratio rose to 163.7% in 2011 from 158% in 2010).

Indexkonstruktion

This ETF tracks the MSCI Total Return Net Korea Index, a free-float market capitalisation weighted index representing 10 sectors across the Korean stock market with 105 constituent stocks as of this writing. Component stocks have to fulfill MSCI’s size, liquidity and free float criteria to be included in the index. MSCI uses the official exchange closing prices to calculate the index’s value. The index is reviewed on a semi-annual basis with minor quarterly reviews to accurately reflect the evolving marketplace. The index is top heavy with the 10 largest constituents accounting for almost 53% of the total market capitalization of the index. The index has a large concentration in the IT sector at 35%, with technology giant Samsung Electronics (005930) accounting for 24% of the index. Other major sector weights include consumer discretionary (18%), industrials (13%), financials (13%) and materials (11%). Except from the heavy weight in Samsung Electronics, stock concentration is minimal, with Hyundai Motor accounting for 6% of the index and the remaining 103 stocks with individual statistical weights below 4%.

Fondskonstruktion

This ETF employs synthetic replication to track the underlying index by entering into a funded swap with counterparty Deutsche Bank AG. Investors’ cash is transferred to Deutsche Bank in exchange for the index performance (net of swap fees and other costs), while Deutsche Bank puts collateral in a segregated account pledged to the ETF. As of this writing, the collateral consists mainly of publicly-listed equities, as well as roughly 17% corporate bonds. The collateral is marked to market on a daily basis and is subject to a margin ranging 100-120% of the exposure. Collateral is held by a third-party custodian; in this case State Street Bank Luxembourg S.A. The return from the swap assumes that all dividends paid by the underlying stocks, net of applicable taxes, are reinvested in the index. This ETF does not pay out dividends. The ETF will not enter into stock lending transactions.

Gebühren

The ETF levies a total expense ratio (TER) of 0.65%. This is in-line with other Hong Kong and Singapore-listed ETFs tracking the MSCI Korea Index. Other costs potentially borne by the unitholder but not included in the TER include swap fees, bid-ask spreads, transaction costs on the infrequent occasions when the underlying index holdings change, and brokerage fees when buy and sell orders are placed for ETF shares.

Alternativen

This ETF is domiciled in Luxembourg and is listed in Hong Kong, Singapore, Germany, UK, Italy, France and Switzerland. There are a number of ETFs tracking the MSCI Korea Index, including the Lyxor ETF MSCI Korea (AO9, listed in Singapore, France, Germany, Italy and Switzerland, TER 0.65%), Kodex MSCI Korea ETF (A156080, listed in Korea, TER 0.37%), CS ETF (IE) on MSCI Korea (CSKR, listed in the UK, Germany, France, Italy and Switzerland, TER 0.65%), HSBC MSCI Korea ETF (HKOR, listed in the UK and Switzerland, TER 0.60%), iShares MSCI Korea (IKOR, listed in the UK, Netherlands, Germany, Italy and Switzerland, TER 0.74%), iShares MSCI South Korea (IKO, listed in Australia, TER 0.59%) and iShares MSCI South Korea Index Fund (EWY, listed in the US, Mexico and Chile, TER 0.59%). Amongst these ETFs, this db-X ETF and the Lyxor ETF MSCI Korea employ synthetic replication while the others employ physical replication. In terms of AUM, the iShares ETF listed in the US is the largest at US$2.6bn, followed by its Europe version at US$500m, Lyxor ETF at US$138m and this db X-trackers ETF at US$110m.

Investors seeking Korean equity market exposure may also consider ETFs that track alternative indices, such as the KOSPI 200 Index, which offers similar exposure but includes a higher number of constituent stocks.