- Morgan Stanley upgraded South Korean equities to overweight from equalweight, setting a Kospi target of 9,000 that implies 36% upside from current levels, with strategists led by Daniel K. Blake arguing that the market has experienced a “leverage washout” that is “mainly technical” in nature — driven by the forced unwind of leveraged ETFs, hedge fund leverage, and retail margin positions rather than by deterioration in the underlying earnings or growth fundamentals of Korean companies; the Kospi has fallen more than 30% from its June peak, and on Monday slumped an additional 5.5% following a record 18% single-session surge in the prior session — the extreme volatility in both directions is itself a signature of a leverage-driven market dislocation rather than a fundamentally-driven bear market; Morgan Stanley sees a near-term trading range of 5,500-10,500, reflecting the expected continued volatility as the leverage unwind completes.
- The structural driver of the Kospi’s positioning as Asia’s AI bellwether — and consequently of both its surge and its collapse — is the concentrated weighting of Samsung Electronics and SK Hynix in the index and in Korean investor portfolios; both companies are critical suppliers of high-bandwidth memory (HBM) and DRAM chips that are essential inputs for AI training and inference workloads, making them direct beneficiaries of the global AI capex surge; the problem was not their fundamental earnings trajectory but the leverage mechanism that amplified exposure to them: South Korea developed an unusually large market for single-stock and sector-concentrated leveraged ETFs, and when AI sentiment shifted (partly due to the Situational Awareness fund’s July underperformance, partly due to questions about the pace of AI capex deployment), the leveraged unwind became self-reinforcing; Morgan Stanley specifically identifies Samsung and SK Hynix as providing “valuation support” at current levels, suggesting the underlying businesses are now trading at attractive multiples relative to their AI-driven earnings potential.
- Korean regulators have intervened to structurally limit the recurrence of this dynamic: the government is planning to cap retail investors’ exposure to leveraged products as a percentage of their total portfolio, targeting the concentrated single-stock leveraged ETF phenomenon that turned individual retail investors’ AI enthusiasm into a systemic amplification mechanism; this regulatory response matters for the Morgan Stanley thesis because it reduces the tail risk of another leverage-driven crash — if the structural amplification mechanism is curbed, the index’s volatility profile improves, which in turn makes the AI and industrial sector exposure more accessible to international institutional investors who had been deterred by the leverage-driven price swings; Morgan Stanley also sees tailwinds for Korean stocks in industrials, defence, and financials — sectors that benefit from the broader industrial super-cycle and elevated defence spending driven by geopolitical tensions.
- The companion calls in Morgan Stanley’s regional equity note underscore the portfolio rotation logic: the bank simultaneously upgraded Thailand to overweight from equalweight, citing improving foreign direct investment, cheap valuations, and exposure to AI capex and energy security themes — a play on Southeast Asian manufacturing and infrastructure benefiting from supply chain diversification away from China; and cut Australia to underweight from equalweight, saying the market offers limited upside after a series of interest rate hikes and tax reforms that have reduced incentives for property investment — Morgan Stanley had previously cited Australia’s energy exposure as a bullish thesis during the Iran war’s early oil price spike, and the Iran diplomacy rally (which drove Brent crude down 7%+ Monday) has removed that specific tailwind, making the downgrade timely.
What Happened?
Morgan Stanley upgraded South Korean stocks (Kospi) to overweight with a 9,000 target — 36% upside — arguing the 30%+ selloff from June’s peak is a technical leverage washout rather than a fundamental collapse. The bank says it’s “past the midpoint” of unwinding leveraged ETFs, hedge fund leverage, and retail margin. Samsung and SK Hynix provide valuation support; regulators are capping retail exposure to leveraged products. Morgan Stanley also upgraded Thailand to overweight and cut Australia to underweight as the Iran diplomacy rally removed the oil-price tailwind that previously supported Australian energy stocks.
Why It Matters?
Korea is Asia’s most direct equity proxy for AI demand via Samsung and SK Hynix’s HBM and DRAM dominance — a 36% upside call from Morgan Stanley is an implicit statement that the AI capex cycle remains intact and that the Kospi’s collapse was a leverage accident, not a signal of weakening AI infrastructure demand. If Morgan Stanley is right, Korean stocks are one of the most asymmetric AI trades available globally at current levels. If wrong — if the AI capex cycle is actually decelerating — the 30%+ drawdown from June has not reached its floor.
What’s Next?
Watch Samsung’s and SK Hynix’s next earnings reports for confirmation that HBM demand is holding — those results will either validate or undermine the Morgan Stanley thesis; watch the pace of the leverage unwind completion, which Morgan Stanley says is past its midpoint but not yet done; watch Korean regulator implementation of the leveraged product caps, which will determine whether the structural amplification risk is actually reduced or just temporarily dampened; and watch whether international institutional investors begin building positions in Korean equities at these levels, which would be the real-money confirmation of the Morgan Stanley view.
Source: Bloomberg
