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Industry reports, briefs issued by Samsung Economic Research Institute

The Strength and Weakness of Korea's Fund Capitalism

The Strength and Weakness of Korea's Fund Capitalism

LEE Young-Joo

Sept. 25, 2006

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A "fund" is a generic term indicating financial instruments created for the purpose of investment. A variety of funds has been created in the past several decades for trading in the financial market as a vehicle for investors big and small. The emergence of many different kinds of "funds" - mutual funds, pension funds, hedge funds, etc. - has produced a new concept of "fund capitalism" to denote the arrival of a new financial market.

The fund capitalism arrived in Asia and Europe in the late 1990s as the capital market went through many reforms and global-sized funds proliferated. It is a product mainly arising from volume trade and growth of fund assets. As of late 2005, mutual fund assets of member countries of Organization for Economic Cooperation and Development (OECD) reached a whopping US$18 trillion, equivalent to 62.4% of their combined GDP. The amount of hedge fund assets held by the organization members was in excess of US$1 trillion in 2005. The US pension fund assets alone totaled US$23 trillion in the same year.

The role of these funds has also changed. In the past, they customarily followed the so-called "Wall Street Rule," which in tougher times, urged investors to sell their stocks rather than trying to participate in management. In the 1970s, however, this investment approach was supplanted by a shareholder activism under which investors were urged to actively participate in management of the companies whose shares they bought and held.

In the US, the government gave more power to the pension funds, which held shares of the companies they invested in, so that they can monitor management of chief executive officers. Recently, the Securities Exchange Act has been reinforced so as to encourage mutual funds to participate in management of companies whose shares they owned. Some fund managers even justified intervention in management when their companies failed to generate enough profit.

In the aftermath of the 1997 financial crisis, Korea received a large influx of global fund assets. The share of foreign capital in Korea's total stock market capitalization rose to 42% in 2004, opening the way for increasingly more global funds to participate in management of the listed companies. The low interest rate policy maintained since 2002, combined with aging population, has boosted demand for high-yield investment vehicles, thus contributing to the growth of Korea's fund industry.

Fund assets are likely to exert growing influence on Korea's economy. From a mid- to long-term perspective, mutual fund and private equity fund markets will continuously grow and fund assets will increase their investment in Korean stock markets and have much stronger clout on local companies. Average Koreans must understand what features each fund has and how each fund affects Korean companies and financial markets. They should also strive to help fund capitalism take root in Korea.

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