Korea Bond Market ‘Wrong’ to Price in Shift, Hur Says

By Kim Kyoungwha and Sangim Han

June 18 (Bloomberg) -- South Korea’s bond investors made a wrong bet that policy makers would switch their focus to tackling inflation while the economy remains weak, Vice Finance Minister Hur Kyung Wook said.

“There was confusion in the market as the message from policy makers has been taken in a wrong way,” Hur said in an interview in Seoul yesterday. “A change in macroeconomic policy risks choking off an economic recovery in an anemic stage. The job market is still very bad, despite some upward potential on the economy.”

The yield on five-year government debt soared to the highest since November last week after Bank of Korea Governor Lee Seong Tae said the downturn for the $929 billion economy has probably ended, raising the prospect of an increase in interest rates. The central bank noted after keeping the seven-day repo rate steady at 2 percent on June 11 that the “mild upward trend” of home prices has continued.

Data from Asia’s fourth-largest economy have been mixed, with exports sliding at the fastest pace in four months in May and industrial output rising for a fourth month. The jobless rate climbed to a four-year high of 3.9 percent.

The yield on the 4.75 percent note due March 2014 has risen 102 basis points since touching a four-year low of 3.72 percent on Jan. 8, according to data compiled by Bloomberg. The yield touched 4.97 percent on June 11, the highest since Nov. 28 and fell four basis points to 4.74 percent today.

Bonds Rally

“Concerns about a rate hike were overblown and the bond market is regaining lost ground with some interest in hard-hit longer maturities from banks and insurance firms,” said Kim Taek Hoi, a fund manager at Hana Bank in Seoul. Korea’s fourth- largest lender holds about 14 trillion won ($11 billion) of bonds.

Economic growth in the second quarter will probably be better than the first quarter’s 0.1 percent expansion, Hur said. Rising oil prices and tensions linked to North Korea remain risks to the economy in the second half, he added.

“We should maintain an expansionary policy until the recovery is assured,” Hur said. “We can’t find any sign of inflation anywhere. Consumption has to improve and investment also has to recover. There are a lot of unsold apartments and home price gains are limited.”

On April 30, lawmakers approved a 17.2 trillion-won ($13.8 billion) package of cash handouts, cheap loans, labor-market aid and infrastructure spending. That added to the 50 trillion won in relief measures already allocated.

The Bank of Korea cut borrowing costs by 3.25 percentage points since October. The consumer price index climbed 2.7 percent in May from a year earlier, the slowest pace in 20 months, and the statistics office said on June 1.

Won Reasonable

Hur said the currency market is behaving “reasonably.” The won has rallied 27 percent versus the dollar from an 11-year low on March 3 and was little changed at 1,259.05 today.

Financial markets, roiled by concern that Korean banks and companies may face a debt default, have regained “stability” as the current-account surplus reached $17 billion in the first five months of 2009, Hur said. Korea posted a $6.4 billion deficit last year.

The government “feels comfortable” with its $227 billion in currency reserves and may even seek a larger amount that can help shield the nation against external shocks, he said.

“The currency market was oversensitive in March and the exchange rate was overshooting,” Hur said. “The currency is now moving reasonably based on economic fundamentals.”

To contact the reporters on this story: Kim Kyoungwha in Seoul at kkim19@bloomberg.net; Sangim Han at sihan@bloomberg.net