Last month, Lee Chan-jin, Governor of South Korea’s Financial Supervisory Service (FSS), blamed himself for the launch of single-stock leveraged exchange-traded funds (ETFs), saying regulators “should have lain down to block it.” Yet when he finally sat down with asset management industry CEOs, he did not utter a single word on the matter. With the FSS maintaining a “silence mode” on this high-profile issue, substantive measures are expected to take shape only at the upcoming F4 meeting, possibly as early as this week.
Governor Lee presided over the “Asset Management CEO Roundtable” held at the Korea Financial Investment Association in Yeouido, Seoul, on July 13. The FSS’s pre-announced official agenda was “Review of Voting and Shareholder Rights Exercise Systems and Other Capital Market Issues.” However, market attention was squarely fixed on those “other capital market issues.” The biggest question was whether measures would be discussed regarding single-stock leveraged ETFs, which have recently seen around 16 trillion won (approximately $10.7 billion) pour into just two stocks—Samsung Electronics and SK hynix—amplifying market volatility.
But contrary to his usual style of raising topics without warning, Governor Lee simply read from his prepared script. In his public remarks, he addressed false and exaggerated advertising by asset managers and the management of ETF tracking errors. “Special self-regulatory efforts are needed against market order-disrupting activities such as exaggerated advertising,” he said, adding, “I urge you to ensure thorough management of tracking errors in the ETF operation process, together with liquidity provider securities firms.” No direct mention of single-stock leveraged products was made.
It was the industry side that publicly raised the issue, albeit at a fundamental level. Hwang Seong-yeop, Chairman of the Korea Financial Investment Association, noted in his opening remarks, “The recent concentration of funds in specific large-cap stocks and the rapid increase in retail investors’ leveraged product investments are areas our industry needs to examine more carefully.” Coming at a meeting where Governor Lee remained silent, this comment highlighted the industry’s own wariness, contrasting with the financial authorities’ cautious stance.
Asset management CEOs who met with reporters after the meeting also kept their lips sealed. Asked whether there had been any discussion on single-stock leveraged products, one CEO simply replied, “The FSS will summarize and announce it.”
The FSS’s cautious attitude is interpreted as having a complex background. First, the official purpose of the day’s meeting was focused on strengthening the stewardship code. Some in the industry also speculate that Governor Lee may have refrained from commenting because he had nothing specific to request from the asset managers. Observers point out that measures targeting the Korea Exchange, which oversees relevant regulations, and securities firms directly involved in the trading flow of these products are more urgent than actions against the asset managers supplying them. “There are many areas where action needs to be taken by the exchange and securities firms rather than the asset managers,” said one industry insider.
Indeed, the impact of single-stock leveraged ETFs is confirmed by the numbers. According to the Korea Exchange, from May 1 to July 10, five of the top 10 ETFs by average trading value were single-stock leveraged or inverse-times-two products. While single-stock leveraged ETF funds in the U.S. are distributed across 100 companies and over 400 products, the prevailing assessment in South Korea is that massive liquidity concentrated in just Samsung Electronics and SK hynix is abnormally amplifying volatility.
Accordingly, the government and financial authorities are accelerating the development of full-scale measures through the F4 meeting (a consultative body comprising the Ministry of Economy and Finance, the Financial Services Commission, the Bank of Korea, and the Financial Supervisory Service). Kim Yong-beom, Chief of Staff for Policy at the presidential office, said at a briefing on July 10, “If there are necessary supplements, I think they will be reviewed and decided upon at the F4 meeting.” Earlier, Deputy Prime Minister and Minister of Economy and Finance Koo Yun-cheol also hinted at policy discussions at the National Assembly on July 7, saying, “I am well aware of concerns that leveraged ETFs are bringing volatility to the stock market.”
The F4 meeting is expected to be held as early as July 16. Measures being discussed in the market include raising margin requirements, imposing daily price fluctuation limits, lowering the leverage multiple to 1.5 times, and temporarily suspending trading when leveraged ETF trading value exceeds a certain ratio relative to the underlying stock’s trading value. However, within the financial authorities, there are significant concerns that such technical measures are merely temporary fixes that could instead fuel market confusion and increase losses for existing investors.
The “delisting” card raised by some is reportedly not being seriously considered by financial authorities. Not only do the products not meet delisting requirements, but withdrawing them just over a month after their introduction would severely damage policy credibility and could cause side effects such as domestic funds fleeing to overseas leveraged ETFs.
As a result, authorities view the volatility caused by semiconductor concentration as the root cause of financial market distortion and plan to focus on devising fundamental measures to ensure funds flow into productive sectors rather than being trapped in the secondary market for specific stocks. “Ultimately, the problem is that market volatility has become excessively amplified based on the earnings outlook for semiconductors like Samsung Electronics and SK hynix,” said one financial authority official. “Raising ETF margins or strengthening investor education are merely technical ideas.”
Meanwhile, financial authorities are known to have asked asset managers on July 10 to propose ways to reduce the market volatility of single-stock leveraged ETFs. With the Financial Services Commission’s presidential briefing scheduled for July 15, there is also a possibility that measures could be announced before then. The Korea Financial Investment Association is already reviewing its own educational reinforcement measures, including strengthening product risk explanations, supplementing basic investment terminology and knowledge, mandating review sessions for insufficient understanding, and enhancing quiz content.
Some in the financial sector are also calling for a re-examination of the government’s “productive finance” policy direction in light of this situation. Critics argue that the goal of channeling real estate-concentrated funds into the capital market is only resulting in trading of specific stocks rather than supplying venture capital. “The essential function of the capital market is to finance growth companies, but recent issues remain confined to the secondary market,” said one financial sector insider. “There are opinions that it is hard to feel the effects of productive finance, other than the investment target having shifted from real estate to specific stocks.”