Seoul: The government's decision not to abolish single-stock leveraged exchange-traded funds (ETFs) tied to Samsung Electronics and SK hynix has been deemed understandable given the substantial investments already made in these products. With over 10 trillion won (US$6.7 billion) invested, a sudden delisting could lead to severe market disruption and significant losses for investors. The financial market's reliance on predictability means that sudden regulatory changes could cause unnecessary shocks.
According to Yonhap News Agency, although the risks of an immediate ban are acknowledged, settling for superficial reforms is not a viable solution. Recent measures by financial authorities, such as raising the minimum deposit requirement, increasing the minimum trading unit, expanding mandatory investor education, and suspending new product listings, are unlikely to address the structural flaws that contribute to instability in Korea's stock market. The core issue lies in the operation of these products rather than who is allowed to purchase them.
Single-stock leveraged ETFs are structured to deliver twice the daily return of an underlying stock. To maintain this leverage ratio, fund managers and liquidity providers must rebalance their positions daily. This mechanism creates a feedback loop where falling prices lead to forced selling, further driving prices down and resulting in more selling through index-linked products and derivatives. Instead of mirroring market fundamentals, prices become products of automatic trading mechanics, influencing the market rather than tracking it.
This risk is particularly significant in Korea, where Samsung Electronics and SK hynix account for more than half of the KOSPI's market capitalization, giving them a unique market influence. Unlike larger, diversified markets, Korea's concentrated market structure poses systemic risks when financial products are based on dominant companies. Authorities initially introduced single-stock leveraged ETFs by comparing them to similar products overseas, overlooking the critical variable of market concentration.
Regulators have attributed recent market volatility to global uncertainty in the semiconductor industry rather than leveraged ETFs themselves. While there is some truth to this claim, it fails to address why volatility is amplified within Korea's market. Leveraged ETFs act as amplifiers, intensifying existing market movements through predictable trading behavior. In a market dominated by two stocks, this amplification affects all investors, not just those trading leveraged products.
The government's response, focusing on raising entry barriers, falls short in addressing the underlying destabilizing mechanics of these products. Restricting access only treats symptoms without resolving the core issue. International investors have taken note, with global investment banks warning of the exacerbated volatility due to single-stock leveraged products. Perception, as much as fundamentals, is crucial in capital markets, and if Korea is viewed as vulnerable to self-inflicted volatility, its long-term competitiveness could suffer.
Meaningful reform is still achievable. Authorities should reconsider how daily rebalancing is conducted and explore mechanisms to spread rebalancing activity over longer periods. Imposing reasonable limits on fund size where systemic risks emerge and assessing whether these products serve legitimate investment purposes or encourage speculative trading are essential steps. If evidence shows that market stability costs outweigh the benefits, a gradual and carefully managed phase-out should be considered.
Financial regulation should aim to prevent market structures from creating avoidable risks. Korea's financial authorities were quick to approve products without fully understanding their consequences. They must avoid repeating this mistake by assuming that modest procedural adjustments can solve a fundamentally structural problem. The goal of financial policy should be to safeguard market integrity, fairness, and stability, rather than preserving every financial product indefinitely. Half measures will not suffice.