The South Korean stock market has experienced one of its most severe episodes in history. On July 28 and 29, the Kospi index lost 16% of its value, and trading was halted twice due to the activation of circuit breakers. The cause of the massive sell-off was investor skepticism regarding the profitability of investments in artificial intelligence infrastructure and a sharp increase in competition in the memory production sector.
The domino effect of the Chinese IPO
Pressure on memory manufacturers' stocks began a day before the Korean crash. On July 27, the company CXMT held its IPO on the Shanghai Stock Exchange. The company's shares rose by 466% on the first day of trading, and its market capitalization exceeded $488 billion, making the firm the most valuable asset on the Chinese market. The record fundraising for China's semiconductor sector amounted to $8.6 billion.
The success of the Chinese competitor dealt a blow to global industry leaders. The MSCI Asia Pacific Information Technology Index (excluding Japan) lost 4.7%. In New York, shares of American giants Micron and SanDisk fell by 5% and 12% respectively, while SK Hynix stocks in Seoul dropped by 8.5%.
Record profits, but not what was expected
The Korean market suffered an additional blow from the publication of SK Hynix's report on July 28. The memory manufacturer's operating profit reached a record 60.54 trillion won ($41.25 billion), showing a growth of 557% compared to the previous year. However, this result fell short of the analysts' consensus forecast of 64 trillion won. At the same time, the company announced plans to increase capital expenditures to $31 billion.
The market reacted negatively to the news: stocks plummeted by 15% and continued to decline the next day. This is critical for the Kospi index, as SK Hynix and Samsung Electronics account for about half of its capitalization. According to Reuters calculations, on certain days this year, these two stocks accounted for more than 80% of trading volume. Both companies previously grew on the wave of demand for memory for AI data centers: SK Hynix produces HBM chips for accelerators, while Samsung remains a major contract manufacturer.
The leveraged fund trap
Trading mechanics exacerbated the situation. Until the end of May, there were no single-stock leveraged funds in South Korea, but on May 27, regulators launched 16 of their own products to bring investors back to the domestic market. The assets of such funds grew to $50 billion. Net purchases by private investors amounted to 14 trillion won ($9.4 billion), which significantly exceeds the activity of foreign investors.
Such funds are required to buy or sell the underlying stock daily to maintain a specified ratio. When the stock price falls, they are forced to sell assets, adding pressure to the quotes. The Kospi volatility index has remained above 80 for the last six weeks, which is an unprecedented figure (in previous decades it did not rise above 30). The KODEX fund with double leverage on SK Hynix has fallen by approximately 70% from its June peak.
Fears of AI debt and default
The sell-off affected not only stocks but also credit markets. Demand for data center memory is driven by the capital expenditures of the five largest US operators: Amazon, Meta, Microsoft, Google, and Oracle. The cost of insurance against their default has risen to record levels.
Five-year credit default swaps on a basket of these companies rose from 115 to 162 basis points. Oracle's default insurance rose the most — to over 215 basis points. Barclays credit analyst Andrew Keches called Oracle swaps an indicator of concerns regarding AI debt: a significant portion of the company's revenue is tied to OpenAI, which has not yet generated cash flow and has postponed its IPO.
According to Sage Advisory, the group's total dollar debt has more than doubled since September and exceeded $360 billion, while free cash flow went negative. Alphabet posted a negative cash flow for the first time in its history in the second quarter — minus $5.9 billion. Nevertheless, analysts at Real Investment Advice believe that current figures are far from levels where there is a real risk of a credit event, and see the widening of spreads merely as a reaction to hyperscalers moving to negative cash flow.
