Pent-up demand set to boost stocks

By Daniel Cho

The Korean stock market's upside continues to shine despite negatives. The fiscal cliff problem in the United States remains a drag on investors' psychology. However, the economic fundamentals of the United States seem healthy enough to withstand fiscal cliff consequences, while some psychological discomfort lingers. The fiscal cliff issue has been worrying economists for more than six months on, but global stock markets are staying on course. In the case of Korea, pent-up demand will catalyze future upside, paving the way for post-fiscal cliff bullishness.

Improving U.S. economic data will provide a near-term backdrop for the KOSPI’s upside driven by Samsung Electronics through April. A closer look at the ISM Manufacturing Index, which rose to 54.2 in February, shows substantial increases in new orders and production. The rebound in new orders represents a rise in pent-up demand. The KOSPI's pullback looks unlikely through April despite negatives. Economic recovery expectations are alive, backed by pent-up demand. Hopes are rising that the United States, Europe and China are turning the corner toward a full-blown recovery in the second half of this year.

Such expectations can be dampened by fears of early liquidity withdrawal. The U.S. stock market rally hinges more on sound bites from the Fed Reserve Board than on Europe. Many market participants remain skeptical about self-sustained global economic recovery. Therefore, any signs of retreat in global liquidity could pour cold water on economic recovery expectations. Nevertheless, it is too early to predict that economic recovery expectations supporting stocks' rise will wane, though it will become clearer in May.

Pent-up demand, or pent-up expectations for economic recovery, can be viewed from longer-term perspectives than quarterly perspectives. During the four years that followed the global financial crisis, investors flocked to bonds, shying away from stocks. The demand for stocks diminished. Korea was no exception. There was no strong reason to invest in stocks, other than Samsung Electronics and the country's auto sector.

Things are looking up now, left and right. For one thing, the U.S. housing market is staging a meaningful recovery, infusing the economic outlook for the second half with optimism. (Remember even rich Americans shunned buying houses) As a sign of bullishness returning to Korean stocks, travel stocks are in rally mode because Koreans are beginning to travel again. The won is strong, and people in their 50s, the main age group for leisure travel, are increasing in numbers.

The yen story needs to be watched. The reversal of the yen's four-year overvaluation eluded Japan's monetary easing efforts, but it is finally here. The timing coincides with the receding of Europe’s risk and the change of leadership in Japan. Korea needs such powerful drivers to open the floodgate of pent-up demand. The resolution of global risks and the long-awaited recovery in economic confidence hold the key.

Specifically, China’s quarterly GDP growth reclaiming 8 percent territory and U.S. housing prices rising back to pre-September 2008 levels will provide the right catalysts. Pent-up investor demand for risk assets building up since the 2008 global financial crisis will likely begin to come out this summer. That makes the case for a bullish stock market at least for the next two years.