Citi Downgrades South Korean Stocks to Neutral, Upgrades China to Overweight

Citi has downgraded South Korea's stock market rating from 'overweight' to 'tactical neutral' due to recent sharp volatility in chip stocks, as the firm seeks to reduce exposure to artificial intelligence (AI) themes. Although the Korea Composite Stock Price Index (KOSPI) has been one of the best-performing markets globally this year, market turbulence has intensified due to retail investors' excessive enthusiasm for leveraged ETFs on single stocks and concerns over valuations.

Citi strategists noted that while they remain structurally positive on the AI theme, they remain cautious about a full exit from the technology sector in emerging market allocations.

Meanwhile, Citi views China as the top candidate for capital rotation. Although China's earnings per share (EPS) momentum started weakly this year, strategists believe Chinese equities will benefit as market gains potentially broaden from a narrow group of AI winners to a wider range of sectors. Factors supporting the upgrade include low investor positioning, falling oil prices, and an improving global growth environment.

Additionally, markets expect the Chinese government to roll out incremental policies, including a potential 10-basis-point rate cut by the People's Bank of China as early as this month and accelerated fiscal stimulus, to drive a moderate economic recovery.

In other regional allocations, Citi maintains an 'overweight' rating on Taiwan's stock market, viewing its hardware supply chain as a core pillar of global AI infrastructure. Mexico's rating has been upgraded to 'neutral,' joining China as a market capable of absorbing capital outflows from overvalued technology sectors.

Despite challenges such as Middle East geopolitical tensions, Federal Reserve policy uncertainty, and climate disruptions caused by El Niño, Citi remains optimistic about corporate earnings in emerging markets, forecasting a 63% increase in MSCI Emerging Markets corporate profits by 2026. Citi believes that if the macro environment remains favorable and geopolitical risks ease, the scope for broader market gains will expand further.