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Retail investors accounted for 64 percent of annual transaction amounts in the Korean stock markets last year, the highest ratio in global stock markets, showing the relative strength retail investors wield over the local stock markets compared to other countries. In the U.S. or Japan, the ratio is about 30 percent on average.
According to data by the Korea Securities Depository (KSD) earlier this month, the number of retail investors, as of the end of last year, reached over 14.24 million. It is more than double the number of retail investors prior to the outbreak of COVID-19 in 2020. In the past five years, the number has nearly tripled from 5.02 million to 14.24 million.
With retail investors becoming the dominant force in local stock markets, some market experts express concerns that the high participation of individual investors may lead to increasingly irrational investment behavior, which could reduce the stock market's supposed role of finding an efficient price for stocks.
A report by the Korea Capital Market Institute (KCMI) pointed out that individual investors particularly tend to show four patterns of irrational behaviors — overconfidence, perceiving stock investment as an opportunity for a jackpot, short-term collective trading, as well as "disposition effect," which refers to investors' tendency to prematurely sell assets that have made financial gains while holding on to assets that are losing money.
"Specifically, investors' high transactional rate of stock items, a high proportion of intraday trading, and a high rate of changing owned stocks are found to be associated with lower daily excess returns. These findings are particularly linked to subpar performance of new investors, individuals in their 20s and those with smaller investment amounts," the KCMI report stated.
With these fallacious investment patterns more pronounced among individual investors, 46 percent of the retail investors log a loss in their stock investment. The ratio goes up to 61 percent, for new investors, even during bull markets.
As retail investors' excessive confidence or optimism in the market or pursuing a quick win can eventually lead to market bubbles and increased volatility of the markets, some worry that the temporary ban on short selling in local stock, where retail investors would have a larger influence than before, could result in greater market volatility.
"Considering the unique characteristics of the Korean stock market, where individual investors have a larger influence than other markets, educating investors about behavioral biases might be needed to foster a healthier investment environment, in order to prevent too much volatility in the markets," a market analyst said on the condition of anonymity.
There's another concern that the short selling ban could trigger more market manipulation, with the potential for significant harm falling on retail investors. In fact, the high-profile stock manipulation case detected by financial authorities in April turned out to have abused a derivative product of Contract for Difference (CFD) to create unwarranted bubbles for stocks whose short selling were prohibited.
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