Kospi's continuing volatility trips off its 31st trading curb of the year, topping 2008's record

The year is still young, with six more months to go, but sidecars have already been triggered on the Kospi 16 times on the buy side and 15 times on the sell side — even more frequently than at the height of the 2008 global financial crisis.

The latest halt came at 1:47 p.m., when a 5.1 percent jump in the Kospi 200 futures index froze program buy orders for five minutes. A sidecar suspends automated, futures-linked trading when a key index swings past a set threshold but leaves ordinary share trading running, unlike a circuit breaker, which stops the market altogether.

The index itself lurched before finishing sharply higher. After sliding as low as 7,378.10 during the session, the Kospi then closed at 8,088.34, up 440.25 points, or 5.76 percent, as investors piled into chip heavyweights Samsung Electronics and SK hynix.

The total number of sidecars this year is already well past the previous full-year record of 26, set in 2008 against the backdrop of the global financial crisis. In June alone, the curbs went off 10 times, roughly every other trading day.

Chip boom and FOMO lead the movement

Analysts point to a single force behind the wild ride: the market's lopsided dependence on semiconductors.

"There was a time when Samsung Electronics accounted for 25 to 29 percent of the Kospi's total market value, but never before has the No. 2 stock, SK hynix, also held more than 10 percent, as it does now," said Kim Hak-kyun, head of research at Shinyoung Securities. "With the top two companies both chipmakers, and leveraged bets piled on top, the index's swings have grown wider."

That concentration set the stage. The accelerant was a newer product: single-stock leveraged exchange-traded funds, or ETFs, which can deliver several times the daily movement of one stock.

Swept up by a fear of missing out as chip shares soared, investors funneled 212 trillion won ($138 billion) into 14 of these funds tracking Samsung Electronics and SK hynix in June alone, which accounted for 26.6 percent of all ETF trading.

The returns were brutal. Because the funds reset every day to keep their leverage ratio, losses feed on themselves in what is known as negative compounding. From June 2 to Thursday, SK hynix fell 7.45 percent, but the seven leveraged funds tracking it plunged 31.45 percent. Samsung Electronics dropped 18.05 percent over the same stretch, while its seven leveraged funds lost 40.65 percent on average.

High risk for investors, higher risk for market

The greater danger is that these high-risk products have moved beyond hurting individual investors to shaking the market as a whole.

To hold their target leverage, the funds must automatically sell shares as prices fall, a mechanical process called rebalancing. On June 23, when the Kospi plunged about 10 percent, the funds dumped a combined 9.2 trillion won of the two stocks — 14 percent of that day's turnover — heaping selling onto an already-falling market and further speeding its descent.

The strain showed up in Korea's fear gauge. The Kospi 200 Volatility Index, or VKospi, which had run around 53 before the leveraged funds arrived, shot up to 90.8 on Friday.

Leveraged borrowing has taken its toll too. Forced liquidations on Korean exchanges reached 3.2 trillion won in the first half, with 970 billion won of that wiped out in June alone as the month's violent swings set off margin calls. When prices fall, brokerages sell investors' pledged shares to maintain collateral levels, which pushes prices lower still in a self-reinforcing spiral.

Plan failed, and regulators are now boxed in 

The funds were initially introduced with a two-part rationale: to defend a weakening won and to draw back home the money Korean investors were sending to Hong Kong, where CSOP Asset Management offers products that pay double the daily returns of Samsung Electronics and SK hynix. Both aims fell short.

Only about 550 billion won came back from the Hong Kong products, a limited effect, and the currency defense failed outright. The won, which traded around 1,500 to the dollar in late May before the funds launched, has since weakened to between 1,530 and 1,550 this month.

Instead, the money flowed into domestic funds built on Samsung and SK hynix, which added to the turbulence. That stands in contrast to Hong Kong, which at first left its own listed stocks out of such products for fear of destabilizing its market.

As the controversy has grown, regulators have promised to act. The Financial Supervisory Service (FSS) has signaled it will tighten the rules on single-stock leveraged ETFs.

"I regret it so much that I now think I should have thrown myself against it to stop it," said FSS Gov. Lee Chan-jin, referring to the government's decision to let the funds launch. He plans to meet the heads of major asset managers on July 13 to discuss the curbs.

But regulators are boxed in. Widening the lineup to spread out demand carries risks, and so does rewriting the rules barely a month after launch. Options under discussion include capping new products and raising margin requirements, though many doubt the market can be calmed quickly now that so much money has flowed in.

"Leveraged ETFs rebalance every day, so in a falling market they can set off large-scale selling and amplify volatility," said Hong Chun-uk, CEO of Prism Investment Advisory. "And because we can no longer count on the National Pension Service to cushion the market as it did in the past, the shock could be even bigger."

BY BAE HYUN-JUNG [[email protected]]