The correlation between the KOSPI and the global financial markets has been strengthening in a way that undermines overall market stability, a report has said.

According to a report issued by the Korea Institute of Finance, a state-run think tank, the country’s main bourse moved increasingly in tandem with other major markets such as S&P500 and MSCI indexes.

Based on an analysis of the daily and weekly changes at major indexes, the report said what is called “market synchronization” increased after the global financial crisis in 2008.

“Both daily and weekly performances of KOSPI showed more close tracking of global markets, especially when the local bourse suddenly went up or down,” said Lim Hyung-jun at the KIF who authored the report.

The increased sensitivity to foreign markets tends to hurt investors, as their portfolio diversification strategy is compromised and alternative channels for better profits or safety diminish.

The main reason Lim cited for the strengthened correlation between the markets is the increasing influence of foreign investors on the local bourse and the globalization of Korean companies.

“The greater influence of foreign investors, who are much more likely to consider the global market’s movement, is an important factor,” he said.

The foreign ownership of Korean stocks hovers at around 30 percent. What’s more important is the steadily rising ratio of trade orders against the stock ownership. Between 2001 and 2007, the only 48.4 percent of stocks owned by foreign investors were traded on the market. For the period from 2008 and 2011, however, the ratio jumped to 61.5 percent on the average, reflecting more frequent trades executed by foreign investors, particularly concerning large cap shares that have a strong impact on the index.

In contrast, retail investors find it hard to jump into such large cap stocks as major conglomerates have been amassing their own shares to protect their management rights and the National Pension Service, the country’s biggest institutional investor, has increased the stake in KOPSI heavyweights that it will continue to hold for the longer term.

Samsung Electronics, whose market cap accounts for 15.25 percent of the entire KOSPI, falls into the category of a global corporation as its shares are favored among foreign investors.

Except for some defensive stocks such as KEPCO and SK Telecom, which have less cyclical tendencies, KOSPI’s heavyweights are deemed “cyclical” and under the direct influence of the global trends, the report said.

“Excessive synchronization should be avoided to underpin market stability and diversification of risk,” Lim said. To that end, the government and regulators should make sure that foreign investors find it less appealing to dump large amounts of Korean stocks overnight.

One option, which is being debated among policymakers, is to levy taxes on profits investors get through trades here, while offering tax incentives for the long-term holdings of shares.

The report also suggested that revitalizing hedge funds might better shield the local market from external risks and turbulences.

The country’s heavy dependence on exports is also cited as a stumbling block for stabilizing the financial market against the instability generated by the strengthened correlation. The ratio of exports in gross domestic product rose to 52.4 percent as of 2011, up from 41.6 percent in 2006. In contrast, domestic consumption’s ratio shrank from 52.3 percent to 49.8 percent during the cited period.

By Yang Sung-jin (insight@heraldcorp.com)