Moral Hazard
With corporate workouts and court receivership in progress in subsidiaries of the Tong Yang Group, and the exacerbating situation surrounding the fraudulent issuing of corporate bills, many people are criticizing investors for their moral hazards.
The people remember experiencing the resale of the corporate bills of the Daewoo Group and the subordinated security bonds of savings banks in 1999. Also, more recently, they have gone through the court receivership of the STX and Woongjin Groups. However, it seems that investors are still in pursuit of high-return and high-risk products. Most of the investors in Tong Yang bet on an annual interest rate of 7% to 8%. Although any loss caused by incomplete sales has to be compensated, the most basic economic principles are crumbling due to some investors’ moral hazards, that is, trying not to be responsible for their investment failures while taking high interest.
“We cannot deny that the financial authorities, which failed to properly control incomplete sales, have at least some responsibility, but the buck should stop at investors themselves unless incomplete sales are a complete fraud,” said a high-ranking official at a financial supervisory agency. He added, “In the case of Tong Yang, many investors renewed their contracts every three to six month maturity, and thus their chance of winning the trial will be low.” He continued, “High interest means a high possibility of going under, and it seems that investors have forgotten the fundamental principle of having to take risks in order to earn high interest.”
They should have learned their lesson already. Before the Daewoo scandal, the amount of debentures and commercial papers issued by the Daewoo Group added up to 30.7 trillion won (US$28.7 billion). Although the government made up for part of it, it taught that investment products could entail losses.
A similar thing occurred just a couple of months ago. STX Pan Ocean went into receivership in June this year, costing lots of investors their money. STX Pan Ocean had a credit rating of as low as BBB, but many of them rushed to it for the interest rate of up to 7%. Exactly the same thing happened during the Woongjin scandal, and with regard to the subordinated security bonds of savings banks which had an interest rate of around 8%.
The same thing is repeating now. Market participants other than individual investors regarded Tong Yang’s poor financing conditions as a fait accompli for years, and thus the bank loans payable were adjusted downward over time. In short, individual investors rushed to the products banks shunned.
The commercial papers of Tong Yang Leisure and Tong Yang International sold to individuals amounted to 430.5 billion won (US$402.1 million). Their annual interest rate is over 7%, with that of time deposits being at around 2%. The size of Tong Yang’s debentures is estimated to be 798.9 billion won (US$745.4 million). The most recently issued corporate bond, issued by Tong Yang Inc. on August 28, was in the speculative grade of BB, but investors put in 78.2 billion won (US$73.0 million) of their money, exceeding the maximum limit by 3.2 billion won (US$3.0 million). The interest rate had been 7.6% a year for the first 10 months, and 8.3% per year from then to February 2015.
Then, why are the same incidents repeating themselves? Industry insiders are pointing out that this is because the market is dominated by political rather than economic logic. Incomplete sales issues are meant to be resolved by the financial supervisory authorities or lawsuits, but they think that insistence will solve problems.
Besides, the government has compensated for their failed investments over and over. It injected public funds to cover 95% of the principals of the debentures and commercial papers during the Daewoo scandal, though in an attempt to save them from the financial crisis at that time. Even though it blocked a greater crisis, the principle of investment and responsibility was broken.