Does South Korean ETF Need More Financial Reforms?

The iShares Korea exchange-traded fund's (EWY) trading pattern is unfortunately starting to look a bit like Japan's. The ETF's top three holdings, Samsung, Posco and Kookmin Bank, account for 30% of assets and all face some market headwinds.

But the key constraint to higher South Korea economic growth and a bull market is its over-regulated financial sector.

Late last year, the "Capital Markets Integration Act" came into effect and could be a building block for more significant reform. While South Korea’s banking sector was liberalized a decade ago, many financial markets were off limits to foreign institutions. South Korea sees the moves of countries like Singapore to become a regional financial services hub, and this legislation is aimed at keep up with the competition.

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The most significant part of the act, which will take effect in January 2009, is the move from a positive list system of regulation--under which everything that is not allowed is prohibited--to a negative list, meaning financial groups can do anything that is not expressly prohibited. Some are comparing the changes with the "big bang" in London 20 years ago.

The legislation also gives more running room for asset managers to develop new and more sophisticated products as well as permitting brokerages to provide customers with a wide variety of financial services. If South Korea can build on its strong industrial and tech foundation and broaden into a financial services powerhouse, it should have a significant impact over time. The reforms will also improve disclosure and transparency and help prevent conflicts of interest.

But some believe that the legislation does not go far enough and that South Korea needs to be much friendlier to foreign financial firms to attract the talent and resources necessary to put Seoul on the global financial map.