In recent years, easing the estate tax burden has been consistently proposed as a solution to address the “°Korea Discount.”± The central argument is that reducing the current top marginal tax rate of 50% or eliminating the surcharge on shares bequeathed tothe largest shareholder group would help mitigate the tax burden associated with rising stock prices at the time of bequest. This, in turn, is expected to encourage controlling families to focus on enhancing firm value. Another argument is that the high estate tax burden incentivizes controlling shareholders and their families to engage in tunneling as a means of transferring corporate control. As a result, the stock prices of firms involved in such practices tend to be undervalued. It is also argued that reducing the estate tax burden could help mitigate this problem. However, empirical studies supporting this claim are scarce. The only study directly addressing this topic is Yeh and Liao (2018), who conducted an event study based on the Taiwanese government’s policy of reducing the top marginal estate taxrate from 50% to 10%. They found that during the [0, +5] event window, the stock prices of family-controlled firms rose by 1.44% relative to non-family firms, suggesting improved ownership structures in family firms. This study indirectly examines the effect of estatetax relief by analyzing stock price movements immediately following the assessment period for bequeathed share values, defined as two months after the valuation reference date. Prior to the end of the assessment period, stock price increases directly raise the estate tax burden, incentivizing controlling families to suppress stock prices. After the assessment period, however, this incentive disappears abruptly, producing an effect analogous to estate tax relief. This methodological approach offers several significant advantages: it allows research to be conducted even without an actual change in the top marginal tax rate, facilitates more precise estimation of event effects by leveraging the unpredictable nature of death, and expands the number of analyzable events (i.e., instances of death). To utilize this empirical research setting, we collected data on 36 deceased individuals—including group chairmen and their family members—from business groups designated for disclosure by the Korea Fair Trade Commission between 2000 and 2023. At the time of their passing, these individuals collectively held equity stakes in 73 publicly listed affiliate firms. Cases in which the decedent donated their equity holdings to public interest foundations or similar entities were excluded from the sample. Using this data, this study reveals that reducing estatetax burdens does not lead to an increase in stock prices for bequeathed shares. First, no statistically significant differences areobserved in stock price reactions between firms with bequeathed shares and those with non-bequeathed shares within the same business group immediately following the assessment period. This pattern holds consistently when examining buy-and-hold abnormal returns (BHAR) over 3-month, 6-month, and 1-year periods after the assessment. Furthermore, when comparing firms likely to increase dividends to pay estate taxes—those with bequeathed shares and those with family-owned shares but no new bequest—no statistically significant differences in stock price reactions were found. Neither the proportion of bequeathed shares nor the relative value of bequeathed stock shows a significant relationship with stock price movements. This pattern remained consistent even in firms where controlling families exert relatively greater influence on stock prices, such as those with smaller market capitalizations or lower price-to-book ratios (PBR). Similar results were also observed in post-2014 samples following amendments to the Monopoly Regulation and Fair Trade Act that curtailed unfair succession practices. Furthermore, this pattern was evident in firms where group succession was insufficiently advanced, potentially heightening incentives for stock price management. Additionally, the number of investor relations (IR) meetings, as well as R&D and capital expenditures,showed no substantial changes before or after the death of controlling shareholders, suggesting that efforts to enhance firm value were not significantly intensified following their death. Finally, while the age of controlling shareholders was associated with a decline in firm value, this trend was observed across all firms, regardless of whether the controlling shareholder held shares in the firm. This finding contrasts with the expectation that such effects would be limited to firms in which the controlling shareholder holds shares, where incentives to suppress stock prices may increase as mortality risk rises. These findings indicate that the observed decline in firm value is not the result of deliberate efforts by controlling families to suppress stock prices in response to estate tax burdens. Instead, the results challenge the argument that estate tax relief directly leads to significant stock price increases or enhanced firm value.

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We examine a firm’s decision to choose between an equity spin-off and a captive spin-off and the decision’s announcement effect. A captive spin-off, which is a unique form of corporate divestiture in Korea and a few other countries, differs from an equity spin-off in that the spun-off entity remains a wholly owned subsidiary of the parent company and shareholders cannot directly hold ownership stakes in the subsidiary even after the spin-off. On the other hand, in the case of an equity spin-off, which is prevalent in many developed countries such as the U.S., incumbent shareholders receive proportional ownership in the spun-off entity, which typically becomes a publicly listed company after the spin-off. It is well-documented that corporate spin-offs can be beneficial to shareholders because they are likely to reduce negative synergies via refocusing, mitigate information asymmetry, and address relevant agency issues. However, many practitioners in Korea have criticized captive spin-offs, arguing that they can be detrimental to minority shareholders because the controlling owner can decide the spun-off entity’s eventual disposal without shareholder intervention. Despite the notable differences between these two spin-off methods, little has been examined regarding the determinants of firms’ spin-off method choices. We examine a large sample of Korean spin-offs, including both equity and captive spin-offs, from 1998 to 2022. Note that, in our sample, captive spin-offs account for 75.6% (704 spin-offs) of all spin-off activities in Korea, whereas equity spin-offs account for only 24.4% (227 spin-offs). This prevalence of captive spin-offs highlights the importance of our study examining what motivates a firm to choose such a controversial spin-off method. Examining simple mean differences between the two types of spin-offs, we find that captive spin-offs are preferred to equity spin-offs by firms that are smaller, less profitable, younger, investing more, and paying out less. These differences suggest that a firm’s choice of spin-off method can be driven by factors other than agency issues. In our multivariate analysis, we find evidence that a firm’s decision to choose between the two spin-off methods can be affected by market valuations. Specifically, an average parent firm is more likely to choose captive spin-off when it is overvalued relative to its industry peers, whereas it is more likely to choose equity spin-off when it is undervalued relative to its peers. Similarly, firms in overvalued industries are more likely to choose captive spin-offs, while those in undervalued industries are more likely to choose equity spin-offs. Moreover, firms with high growth rates and low cash flows, i.e., those likely in need of capital infusion, are more likely to choose captive spin-offs. Examining market reactions to spin-off announcements, we find that equity spin-off announcements, on average, attract more favorable market reactions in terms of announcement period cumulative abnormal returns than those of captive spin-offs. Further analysis reveals that the average announcement return is highest among undervalued parent firms that chose equity spin-offs, and the return is lowest among overvalued firms that chose captive spin-offs. Also, in the case of the former, announcement returns are on average higher when the spun-off entity is smaller relative to the parent, whereas in the case of the latter, announcement returns are negatively correlated with the spun-off’s relative size. We also examine the effects of a firm’s ownership structure on its choice of spin-off method, focusing on controlling family ownership, affiliated firm ownership, and blockholder ownership. Although we find that blockholder ownership concentration is negatively associated with the likelihood of captive spin-offs, we do not obtain consistent results regarding the other ownership variables. Note, however, that these results should be interpreted with caution because these ownership variables may not fully capture the complex ownership structure of Korean firms. Overall, our results are consistent with the notion that firms may strategically choose the method of their spin-offs to exploit market misvaluation, and such a choice can signal the market regarding their valuations. That is, equity spin-offs can be chosen to allocate undervalued shares to incumbent shareholders, which will attract positive market reactions, whereas captive spin-offs can be used as a means of raising capital using overvalued equities, which will result in less favorable market reactions. Adding to the prevailing view that captive spin-offs are used as a means of minority shareholder expropriation, this study offers another perspective that a firm’s choice between equity and captive spin-offs can be driven by a rational reaction to market misvaluation that is not necessarily disadvantageous to minority shareholders. That is, market reactions to corporate spin-offs in Korea can partly be driven by the signaling effect of firms’ spin-off method choices. Therefore, an assessment of whether a spin-off is detrimental to minority shareholders should consider not only the parent firm’s agency issues but also the market valuations leading up to the firm’s spin-off decision.

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Real estate accounts for the largest share of household wealth globally, with an average share of more than 50% of total wealth. In Korea, this share is even higher, with real estate accounting for approximately 60% of total household assets by 2020. Real estate plays a dual role as a provider of housing and as an important investment vehicle. Given the substantial financial commitment required to purchase residential property, home ownership is often seen as an important means of wealth accumulation for households. In addition, the reliance on institutional credit to finance housing purchases amplifies the impact of housing market fluctuations on household wealth, liabilities and the financial stability of banks. In addition, the historical performance of real estate returns and their relationship to business cycles have important implications for academics, investors, financial institutions, regulators, and policymakers. Despite their importance, however, long-term empirical analyses of real estate returns are scarce due to data limitations. The existing literature on real estate based on long-term data has primarily focused on US and European residential and commercial real estate. For example, Jordà, Knoll, Kuvshinov, and Sehularick (2019) highlight that while average real estate returns are slightly lower than equity returns, they exhibit significantly lower volatility. In this study, we analyze the risk-return trade-off of residential real estate in Korea using comprehensive dataset spanning 47 years from 1975 to 2021, the longest sample period to the best of our knowledge. Specifically, the main objectives of this study are threefold. First, we aim to calculate and analyze the nominal and real total returns, risk premia and Sharpe ratios of Korean real estate. Second, we seek to compare Korean real estate returns with international benchmarks. Finally, we evaluate the inflation hedging potential of real estate by examining its effectiveness in mitigating inflation risk over different investment horizons. Our analysis is based on long-term data obtained from multiple sources such as the Bank for International Settlements (BIS), the Bank of Korea, Korea Exchange, Statistics Korea, Kookmin Bank, Korea Housing Bank, and the Real Estate Board. The nominal total return on real estate is the sum of capital gains and rental income. To account for appraisal smoothing in real estate index returns, we apply the adjustment method proposed by Barkham and Geltner (1994). To calculate the rental income of real estate, weneed to use the jeonse-to-price ratio, which has been published by KB Kookmin Bank since 1998. The jeonse system, which is unique to Korea, requires tenants to pay a lump sum for the use of residential property for a specified period. For the period from 1975 to 1998, when jeonse/price ratio data were not available, we estimated a dynamic regression model using variables such as the jeonse price index from the consumer price index, the housing price index, the GDP growth rate, the expected real interest rate and the 3-year government bond rate. Our empirical results show that the average annual nominal total return for residential real estate is 10.82% with a standard deviation of 11.39%. The real return is 5.30% with a standard deviation of 9.65%. The risk premium for real estate is 2.75% and the Sharpe ratio is 0.26. For the same period, the equity risk premium is 7.64% with the Sharpe ratio of 0.25. The difference in the Sharpe ratios between stocks and real estate is not statistically significant, making it challenging to assert that real estate has outperformed equities over the long term in Korea. When compared with the returns of 16 countries, including the United States, the United Kingdom, and Japan, the Korean real estate market exhibits significantly lower risk premia and Sharpe ratios. These differences are statistically significant, suggesting that the risk-adjusted performance of Korean real estate is relatively weak. If housing provides a hedge against the risks associated with future homeownership, households may be willing to pay higher prices even if the risk-adjusted return is lower. Therefore, if the demand for hedging against future housing costs is relatively higher in Korea than in other countries, it is possible that the risk-adjusted returns may be lower. Our analysis further shows that Korean real estate returns exhibit a statistically significant positive correlation with inflation rates. The correlation coefficient increases with the investment horizon, reaching 0.68 and 0.78 for five-year and ten-year horizons, respectively. These findings suggest that real estate serves as an effective hedge against inflation risk in Korea. It is important to note that this study is limited in that it does not account for taxes and transaction costs associated with ownership and transactions. Future research should address the limitations of our analysis by incorporating transaction costs and taxes, and by exploring the implications of individual transaction-level data for a more granular understanding of the market.

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The globalization of the world economy has facilitated the transmission of risk across stock markets during financial crises. Although not directly financial in nature, macroeconomic uncertainties caused by health and geopolitical crises, such as the recent COVID-19 pandemic and the Russia-Ukraine and Israel-Hamas conflicts, have the potential to trigger shocks that may spill over into global financial markets. In this paper, we investigate the effect of macroeconomic shocks, specifically the COVID-19 pandemic and the Russia-Ukraine and Israel-Hamas wars, on the degree of stock market integration between South Korea and the United States. Previous studies present two opposing perspectives on how these recent shocks may affect global stock market integration. On the one hand, during periods of macroeconomic uncertainty, economic lockdowns or sanctions implemented to mitigate the transmission of shocks may reduce international trade volumes and capital flows, which in turn may weaken stock market linkages. On the other hand, another possibility is that stock market linkages may strengthen independently of the real economy. In the event of a global economic shock, emerging economies such as South Korea tend to implement macroeconomic policies similar to those of the United States to mitigate the impact on the real economy. This policy alignment has the potential to result in enhanced integration of stock markets, irrespective of whether these linkages directly reflect real economic conditions. Therefore, the extent to which stock market linkages are strengthened or weakened in response to macroeconomic shocks is an empirical question that merits attention. Furthermore, the degree of integration may vary depending on the nature of the shock, particularly when the shock manifests in different forms. In order to empirically investigate this issue, the DCC-MGARCH model is applied to the daily log return series of the KOSPI and S&P 500 stock market indices for the period from January 1, 2011 to January 31, 2024. We find that the shocks from the COVID-19 pandemic and geopolitical conflicts do not have uniform effects on stock market integration. In particular, during the COVID-19 pandemic crisis, the Korean stock market exhibited a greater degree of integration with the U.S. stock market than in previous years. However, the degree of stock market integration declined sharply during the Russia-Ukraine war. The results suggest that the simultaneous and multiple shutdowns in numerous countries worldwide during the COVID-19 pandemic, coupled with the implementation of quantitative easing policies to mitigate the impact of shocks, have contributed to an increase in stock market integration. In contrast, geopolitical risks, such as localized wars, appear to result in limited spillovers to stock markets. The results of our study provide valuable insights into the evolution of stock market integration during periods of uncertainty, emphasizing the importance of understanding the dynamic nature of stock market integration. Specifically, we suggest that during macroeconomic crises, both investors and policymakers should tailor their strategies according to the specific nature of the shock in order to diversify risk and optimize potential returns. While global stock market synchronization may potentially limit the efficacy of diversification, particularly during global crises, our findings underscore that the degree of integration between countries can exhibit considerable variability during periods of geopolitical risk. This variability presents opportunities for international diversification, which can assist in risk diversification and expected return enhancement. By taking into account the distinct characteristics of various shocks, policymakers and international investors can more effectively navigate macroeconomic uncertainty and implement more effective strategies for risk management. The significance of this study lies in its contribution of empirical evidence demonstrating that macroeconomic shocks exert differential effects on stock market integration, contingent on the nature of the shock. These findings bear significant ramifications for the formulation of government macroeconomic policy, the strategic portfolio composition of international investors, and the advancement of academic knowledge in this field. The study's analysis of the dynamic response of stock markets to diverse macroeconomic shocks, as influenced by their nature, provides a comprehensive framework for understanding these interactions.

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Mini KOSPI 200 options are derivatives based on the KOSPI 200 index, just like the regular KOSPI 200 options. While the contract terms, such as expiration dates and trading hours, are identical, mini options are structured to allow smaller investments by reducing the contract size to one-fifth (from a multiplier of 250,000 KRW to 50,000 KRW). This makes them accessible to smaller investors, aiming to increase retail participation. However, the question remains: have mini options successfully attracted retail investors as originally intended? As market data reveals, the share of retail investors in the mini options market is significantly lower than in the regular options market, contrary to the product’s initial purpose. Institutional investors, particularly securities firms, dominate the mini options market, contributing to its low liquidity. As a result, the liquidity premium in mini options leads to higher pricing compared to regular options with the same strike prices and expiration dates. This creates a barrier for retail investors, who generally prefer long positions and are sensitive to price disparities. Therefore, mini options have not achieved their goal of increasing retail participation and are instead primarily traded by institutional investors. The difference in liquidity and the composition of market participants leads to differing price determination mechanisms between mini and regular options. The distinct characteristics of the mini options market suggest that the optimal option pricing models suitable for regular options may not be applicable to mini options. The Black-Scholes (BS) option pricing model, introduced in 1973, has long been a fundamental tool in the options market, but its limitations have led to the development of many alternatives. The BS model, while advantageous for its simplicity and closed-form solution, fails to accurately reflect real-world variables like volatility and risk-free interest rates. Implied volatility, which is calculated based on option prices, tends to vary with strike prices and expiration times, a phenomenon known as the volatility surface, indicating that the BS model does not fully capture market realities. To overcome these limitations, various alternative models have been proposed, including stochastic interest rate models, stochastic volatility models, jump diffusion models, variance gamma models, and regime-switching models that assume sudden changes in volatility. GARCH models that assume conditional heteroscedasticity in the underlying asset are also used. Additionally, the Ad-Hoc Black-Scholes (AHBS) model is popular among market participants for estimating implied volatility using simple regression analysis. Previous research has shown that stochastic volatility models offer the greatest improvement over the BS model. Studies focused on the regular options market found that the AHBS model outperforms more mathematically complex models, including stochastic volatility models, in both pricing accuracy and hedging performance. Given that mini options display characteristics distinct from regular options, it is necessary to question whether the optimal pricing models used for regular options can still be applied effectively. This study aims to identify the optimal option pricing model for the mini KOSPI 200 options market. By comparing in-sample and out-of-sample pricing accuracy and hedging performance, we aim to recommend the most suitable model for participants in the mini options market. The models under consideration include the BS model, the AHBS model, and models that account for stochastic volatility and jumps. Through this comparison, we examine how differences in liquidity and the composition of market participants affect option pricing and hedging. The study suggests that markets with a high proportion of retail investors may favor simpler models like the BS model, while markets dominated by institutional investors might see better performance with more mathematically complex models. Given that the mini options market has a lower proportion of retail investors compared to regular options, it is expected that more sophisticated models that account for stochastic volatility and jumps will outperform simpler models like the BS model. This study provides several contributions to existing research. First, it is the first to explore the optimal options pricing model specifically for the mini KOSPI 200 options market. While mini options share many characteristics with regular options, their smaller contract sizes and different participantcomposition create unique market dynamics. The study shows that institutional investors play a larger role in the mini options market than in the regular options market, and that mini options have lower liquidity. These factors must be considered when selecting the optimal pricing model. Second, this research utilizes long-term data spanning 90 months, from the market’s inception to the present, offering a comprehensive view of the market’s evolution. Most previous studies focused on the early stages of the mini options market, where liquidity was insufficient. By incorporating a longer time frame, this study is able to capture the effects of market maturity and changes in volatility and liquidity over time. The results are as follows. Models that account for both stochastic volatility and jumps show the best performance in both in-sample and out-of-sample pricing tests. In terms of hedging performance, the AHBS model that includes both first-order and second-order strike prices performs the best. However, the differences in hedging performance across models are relatively small. When the forecasting period is extended to one week, the results remain consistent with the one-day forecast. Monthly performance also shows consistency, with statistically significant differences between the models' performance over the entire sample period. Compared to previous studies on the regular options market, which found that simpler AHBS models provided the best pricing and hedging performance, this study reaches different conclusions. The differences in liquidity and participant composition between the mini and regular options markets play a significant role in the selection of the optimal pricing model.

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This paper explorers the contributing factors to the Terra (UST)-Luna crash in May 2022. We argue that the crash was primarily fueled by the unsustainable interest rates offered by the Anchor Protocol. Initially, Terra was designed to facilitate fee-free payments and ensure stability through a diversified demand base from payment services. However, the launch of the Anchor Protocol in 2021, with its 19.45% interest rate, shifted UST's focus towards speculative demand. This change led to an unsustainable increase in UST's supply, ultimately triggering a run from Terra. We discuss flaws in the governance mechanism for setting Anchor Protocol's interest rates. The exorbitant yield offered by the Anchor Protocol significantly contributed to undermining Terra's long-term stability. The speculative demand incited by the Anchor Protocol's high interest rates was likely a major factor in the Terra collapse in May 2022.

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Due to the influential works of Fama and French (1992, 1993), the value premium often refers to the book-to-market effect although there are alternative valuation measures. Recent evidence indicates that the book-to-market effect has weakened over time or even disappeared in the U.S. stock market. The literature suggests that, even in the Korean stock market, the value premium measured by an individual valuation ratio, including book-to-market, may significantly fluctuate over time, and a value factor constructed based solely on the book-to-market ratio may not capture the true value premium. This study aims to verify the predictability of value premiums based on various valuation measures, not just the book-to-market equity ratio, and to identify which value predictor is consistently useful in the Korean stock market over a long period from 1987 to 2023. We further attempt to investigate why the most useful valuation measure has a better predictive performance than others. To this end, we consider six valuation measures, including the book-to-market ratio, retained earnings-to-market ratio, contributed capital-to-market ratio, earnings-toprice ratio, cash flow-to-price ratio, and dividend-to-price ratio. The main findings are summarized as follows. First, except the contributed capital-to-market ratio, all alternative value measures can significantly predict the cross-section of stock returns when book-to-market is controlled for. The most significant is retained earnings-to-market, followed by dividend-to-price, and these two measures predict value premiums more strongly than the book-to-market ratio. The results are consistent with Ball et al. (2020) in that retained earnings-to-market is a strong predictor of the value premium whereas contributed capital-to-market is not, but controlling for the retained earnings-to-market ratio does not eliminate the predictive power of book-to-market in Korea. Second, we construct value factors based on each of the six valuation measures to compare their historical performance and find that the HML factor, which represents the book-to-market effect, has a Sharpe ratio of 0.35 in the period prior to July 2005 and 0.83 in the period after July 2005, indicating a stronger recent performance unlike in the U.S. market. However, when compared to alternative value factors based on useful valuation measures, the HML factor performs worst before July 2005 and best after July 2005, which implies that the book-to-market effect substantially varies over time, as in the U.S. market. On the other hand, the retained earnings-to-market factor has the highest Sharpe ratio of 0.64 throughout the sample period and almost equal Sharpe ratios during the periods before and after July 2005. In addition, the retained earnings-to-market factor has higher correlations with the earnings-to-price, cash flow-to-price, and dividend-to-price factors than the HML factor. Therefore, retained earnings-tomarket is the strongest and most reliable predictor of the true value premium in any period. The HML factor incorporates not only the useful information contained in retained earnings-to-market but also the information in contributed capital-to-market, which has little to do with the value premium, and as a result, it performs worse in periods when it is highly affected by contributed capital-to-market. In this sense, the HML factor may be a relatively unstable indicator of the true value premium. Third, in spanning regressions, the retained earnings-to-market factor subsumes all other value factors, including HML, and has additional information that the other value factors do not have. The next most valuable value factor is the one based on the dividend-to-price ratio. The remaining value factors and the HML factor do not seem to capture all of the information from each other and their priority is not clear. As a result, the value factor that is most useful as an asset pricing factor seems to be the retained earnings-to-market factor. Finally, considering that retained earnings represent the difference between accumulated earnings and accumulated dividends over the firm’s history, we investigate whether accumulated earnings or accumulated dividends over recent years are more responsible for predicting the cross-section of expected returns and find that accumulated dividends, rather than accumulated earnings, primarily drive the predictive power of retained earnings-to-market in Korea. Moreover, we find that retained earnings-to-market can strongly predict the growth in earnings over two to three years. In contrast, the book-to-market, cash flow-to-price, dividend-toprice ratios do not predict earnings growth. Therefore, the outperformance of retained earnings-to-market as a predictor of the value premium may be related to useful information about future earnings growth. Although we show that the book-to-market effect has recently become stronger in Korea, unlike in the U.S., our findings are consistent with recent evidence in the U.S. market in that the book-to-market effect may not always represent a true value premium. Our findings consistently show that the retained earnings-to-market ratio is the best predictor of the value premium among well-known and easily observable valuation measures. Moreover, our results of spanning tests suggest that it may be desired to construct a value factor based on retained earnings-to-market rather than book-to-market in asset pricing models.

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We investigate the factors influencing investors' decision-making in the Korean mutual fund market. Our findings indicate that investors prioritize simple signals when allocating capital to mutual funds, such as excess returns on benchmarks designated by fund rating companies or market indices like KOSPI and KOSPI200. Conversely, investors are less inclined to use sophisticated asset pricing models, including the CAPM (Capital Asset Pricing Model), Fama and French (1993) Three-factor model, and Carhart (1997) Four-factor model. Notably, institutional investors are more likely than retail investors to utilize these asset pricing models when selecting mutual funds. Our results remain robust even when accounting for observations following the Global Financial Crisis (GFC), extreme returns, and changes in fund ratings provided by rating agencies. Furthermore, we demonstrate that the weighting of time-series fund flow-performance sensitivity does not affect our conclusions. Our research suggests that in Korea's mutual fund market, investors tend to rely on straightforward indicators rather than the complex pricing models proposed by earlier studies. Importantly, our results suggest that this preference for simple indicators among retail investors is not unique to any specific country. We conclude that retail investors generally lack the level of financial literacy required to effectively use risk-adjusted performance measures.

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