Investors are piling into South Korea's won, confident that the country won't weaken its surging currency because it fears being labeled a foreign exchange manipulator by the U.S.
The won is up nearly 12% against the dollar this year, making it one of the world's best performing currencies and putting it on track to deliver its biggest annual gain in more than a decade. The won recently traded at its highest level against the dollar in more than two years.
Money has poured into Korean markets this year despite concerns about the unstable geopolitical conditions on the peninsula. Foreign investors bought a net $3.3 billion worth of Korean stocks and bonds in October after two months of outflows, according to the latest data from Australia and New Zealand Banking Group Ltd.
Improving economic growth, expectations for higher interest rates and a weaker dollar have helped fuel the won's gains. But just as important to investors has been the central bank's hesitance to rein in the currency.
South Korea's central bank "has not been anywhere near as interventionist as it has in the past," said Prashant Singh, a senior portfolio manager at Neuberger Berman who has held won throughout the year. "This has been one of the primary drivers of the won's strength."
Some investors and analysts say one reason is that the government is concerned about antagonizing the Trump Administration, even though a strong won can have a dampening effect on the South Korean economy. The Bank of Korea works closely with the government to smooth out volatility in the won by buying or selling currency.
Since 2016, South Korea has been on a U.S. Treasury Dept. watch list of countries that Washington says put the U.S. at an unfair disadvantage by weakening their currencies. U.S. goods become less competitive abroad when foreign currencies fall against the dollar.
Countries on the list, which includes China, Japan, Germany and Switzerland, could eventually face U.S. sanctions if they take actions like persistently intervening in currency markets and running a significant trade surplus with the U.S.
Bank of Korea officials have suggested that the U.S. watch list has influenced their policy toward foreign-exchange interventions.
"It would not be true if we say we are not conscious of remaining on the list when we conduct smoothing operations," a senior Bank of Korea official who supervises currency markets said in an interview.
The central bank's comments are reassuring to market participants betting on more won strength, said Jorge Mariscal, emerging markets chief investment officer at UBS Wealth Management.
The words indicate "that they are unwilling to push hard against the current market trend," said Mr. Mariscal, who has been buying won and expects it to gain another 2% against the U.S. dollar over the next 12 months.
U.S. and Korean trade officials are also in the process or renegotiating a five-year-old pact that has been a target of criticism from President Donald Trump.
South Korea may be hoping that fewer currency market interventions will produce the same results as in Taiwan. The U.S. in October removed Taiwan from its list of trading partners that might be manipulating their exchange rates after saying central bank officials there had reduced currency interventions.
The Bank of Korea's last major suspected intervention was on Aug. 16, 2016, when it spent at least $1 billion to slow the won's gains, according to Jeon Seung-ji, a currency analyst at Samsung Futures Inc. in Seoul. Traders said the central bank's relative inactivity is a departure from past years, when it was quicker to step in and curb a rising currency.
The Bank of Korea suggested that local financial authorities are trying to walk a fine line between being less interventionist and abiding by its mandate to stabilize volatile market swings.
"One thing for sure is that the central bank always steps in if it needs to take action to tame market volatility," the official said.
Finance Minister Kim Dong-yeon recently warned against the won's steep gains, his first attempts to talk down the currency since the new government of President Moon Jae-in was inaugurated in May.
Some analysts say the new government may not intervene as aggressively in foreign-exchange markets. Unlike his two conservative predecessors, Mr. Moon has called for "a paradigm shift" in economic policy. He wants more of a focus on domestic demand, and smaller firms that are less sensitive to gains in the won's value.
Ruchir Sharma, head of Asia-Pacific foreign-exchange trading at Credit Suisse Group AG in Singapore, said the perception among professional investors like hedge funds that Korean authorities aren't intervening aggressively has given them "good reason to participate" in the won's advance.
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(END) Dow Jones Newswires
December 04, 2017 05:44 ET (10:44 GMT)