Buffett sees potential in South Korea

If the world's top investor had just one million dollars to invest, where would he put it now? Commodities, big blue-chips, infrastructure plays? No. "I could find better things to do with a million dollars, probably in Korea, than I could probably find in this market [the US]", is what Warren Buffett, the 77-year-old head of Berkshire Hathaway, told fans at the company's annual jamboree in Omaha, Nebraska this month. So what's got Buffett excited about South Korea?

The South Korean economy certainly looks healthy enough. GDP is expected to grow 4.8% this year, and there is a healthy investment culture. Domestic investors now own 25% of listed companies, up from 15% four years ago. Companies have continued to reduce their debt and improve their balance sheets since the Asian crisis of 1998.

"Their earnings have become very stable compared with the 1990s, and people believe that companies like Samsung, Posco and Hyundai will continue to make profits," says Jaechil Kim of Korea Securities Research Institute in the International Herald Tribune. However, one issue for investors to be wary of is the fact that exports account for 40% of GDP, a worry given American consumers' weakness.

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But for now, this isn't hurting sales: exports grew 27% in April from a year earlier, on the back of stronger sales to other emerging markets, especially the Middle East. And compared with the rest of the region, the market is still cheap. The Kospi Index is now trading on 13 times estimated earnings against 15 times for the MSCI Asia Pacific Index. "Since 1997, Korea has actually outperformed emerging markets in general, and I think that is going to continue," said Mark Mobius, manager of the Templeton Emerging markets Fund this month, as the government continues to push through reforms. The most recent are plans to cut the corporate tax rate from 25% to 22%.

What's more, adds Mobius, the country's currency (the won) is undervalued by as much as 8%, a potential added bonus for sterling investors. Thisismoney.co.uk says the best risk-adjusted returns over the past three years are Fidelity Funds Korea, up 115%, Allianz RCM Korea, up 111% and Baring Korea, with a 104% return. But all have total expense ratios of around 2%, making the iShares MSCI Korea (NYSE:EWY) exchange-traded fund a cheaper bet. It has a total expense ratio of 0.74%, and is up 12% over one year.