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Economics – Markets – Strategy Yield
Chart 11: Equipment Investment and Inventory
%YoY
25
20
15
10
5
Chart 12: Trends in Bank Lending
KRW tr
450
400
350
300
Household Debt
Loans to Companies
0
-5
-10
Equipment Investment
Inventory
250
200
-15
May-03 May-04 May-05 May-06 May-07
150
Jul-02 Jul-03 Jul-04 Jul-05 Jul-06 Jul-07
meeting caused a rapid adjustment in expectations. Yields rose sharply to levels
that reflect expectations for tighter policy for the remainder of this year.
While the domestic economy, domestic demand in particular, is exhibiting some
signs of a slowdown, the Bank of Korea kept rates on hold in May as exports
continue to post robust growth and financial institutions’ lending continues to
show a steady increase. (Charts 11 & 12).
We think the BOK will deliver one 25bps rate cut later this year and another one
in 1Q09, but economic conditions have to deteriorate for this to materialize.
With growth unlikely to fall sharply below potential (we expect full year growth
of 4.6% this year, compared to potential of about 4.5%), bank lending still
strong and inflation rising, this is far from being a done deal.
For the bond market the above means that the market will likely struggle for
direction in 3Q08. Market participants now read the BOK as reluctant to cut
rates and it would take significant downside surprises in the data or clear signals
from the Bank of Korea to price rate cuts into the yield curve again. That said,
a continuation of the sell-off is probably less likely than a bond rally, given that
economic momentum is slowing and exports have been and appear to remain
the only key positive. We expect yields to be under downward pressure in 2H08
and the curve to exhibit a weak steepening bias (Chart 13 & 14).
The Korean bond
market will likely
struggle for
direction in the
coming months
Chart 13: 3Y KTB Yield vs 10Y KTB Yield
%pa
6.3
6.0
5.8
5.5
5.3
5.0
4.8
3/10 Spread
10Y KTB Yield
3Y KTB Yield
4.5
Jun-07 Oct-07 Feb-08
bps
40
30
20
10
0
-10
-20
Chart 14: KTB 3Y Yield vs KTB 10Y Yield
KTB 10Y Yield (%pa)
6.25
6.00
5.75
5.50
5.25
5.00
steepening
4.75
Last 100 trading days
Last 10 trading days
4.50
4.50 4.75 5.00 5.25 5.50 5.75 6.00 6.25
KTB 3Y Yield (%pa)
47