South Korea's Stock Market Flirts with a Bottom: Slowing Foreign Selling and a Firmer Won Set the Stage for a Potential Rebound

South Korea's equity market, after a period of severe deleveraging and aggressive foreign selling, is now presenting a potential inflection point based on both valuation and technical signals. The KOSPI 200's valuation has been reset to its first percentile over the last decade, prompting a shift in market narrative from a one-sided "crisis mode" to one of "bottom-fishing" and potential recovery.

On September 8th, the Korea Composite Stock Price Index broke through its short-term descending trend line, marking its first close above the 50-day moving average since the recent substantial sell-off began.

Where the tide turns

The improving picture is supported by encouraging capital flows and a firmer currency. The pace of one-way foreign selling is decelerating, while the Korean Won is simultaneously strengthening, signaling a return to a positive dynamic where spot prices rise alongside increasing volatility.

Historically, a stronger Won helps attract foreign capital back into the market. If the currency continues to stabilize, the diminishing foreign demand for dollars could become the next tailwind for the KOSPI index.

Micro-level trading sentiment is also warming. The KOSPI Volatility Index has recorded its first meaningful uptick since the sell-off began. According to Bank of America, if investors begin chasing upside call options, it could easily reignite the bullish momentum of a "spot and volatility" co-move.

These incremental shifts suggest the extreme selling, initially driven by concerns over AI capital expenditure and risk aversion, may be nearing its end. With valuations offering a margin of safety, investors must reconsider the market's support level and gauge the sustainability of any rebound amid the intertwined semiconductor cycle and geopolitical risks.

Leverage unwinding and valuations reset to extremes

The core of this adjustment has been the unwinding of leverage and the deflation of a valuation bubble. Retail investors' heavy use of credit trading and leveraged products meant that the post-leverage contraction turned into a series of concentrated sell orders.

Bank of America's Bubble Risk Indicator shows the KOSPI's bubble risk has plummeted from bubble territory to 0.52, with volatility also halving during the process.

With the bubble now deflated, the Korean market's valuations have reset to extreme lows. The KOSPI 200's forward price-to-earnings ratio stands at just 6.2 times, placing it in the 1st percentile of its own ten-year history. In contrast, global peers are trading at the 68th percentile, presenting a significant discount that provides a thick layer of downside protection.

Bank of America believes that with volatility normalizing and valuations reset, the risk-reward for selectively adding upside exposure to Korean equities is becoming attractive, recommending participation via three-month call option spreads.