Political Instability in South Korea: Implications for Foreign Investors

South Korea's political landscape has become a minefield for foreign investors, with the arrest of former President Yoon Suk Yeol in July 2025 marking a pivotal moment in a year of unprecedented turmoil. The former leader's detention for alleged insurrection and abuse of power—related to his short-lived martial law declaration in December 2024—has exacerbated fears of systemic instability, compounding long-standing structural risks for global capital. This article examines the implications of Yoon's arrest on market confidence, governance risk, and long-term investment strategies in a country now grappling with its most profound political crisis since the 1980s.

Market Confidence: A Fragile Equilibrium

The immediate market reaction to Yoon's arrest was severe. The iShares MSCI South Korea ETF (EWY) plummeted 5.5% in U.S. trading, while shares of Coupang, POSCO Holdings, and Samsung fell 5–7% in a single day. The South Korean won weakened by over 2% against the U.S. dollar, compounding concerns about capital flight. These movements reflect a broader erosion of investor confidence, driven by fears of prolonged political gridlock and the potential for snap elections.

The KOSPI index, already battered by the December 2024 crisis, has traded at a price-to-book (P/B) ratio below 1 for months—a stark contrast to the MSCI World's P/B of 3.5. This “Korea Discount” underscores the market's perception of elevated political and economic risks. reveals a widening valuation gap, with South Korean equities underperforming peers in other emerging markets.

Foreign investors have pulled over $14 billion from South Korean assets since August 2024, according to central bank data. This exodus is not merely a reaction to Yoon's arrest but a symptom of deeper structural issues, including opaque corporate governance and the dominance of family-controlled chaebols. The arrest has, however, accelerated these trends, with portfolio managers increasingly hedging against further volatility.

Governance Risk: A Double-Edged Sword

The Yoon saga has laid bare South Korea's governance vulnerabilities. While the government under President Lee Jae-myung has pursued regulatory reforms—such as a “regulatory sandbox” for innovation and a Foreign Investment Ombudsman—the arrest of a former president highlights the fragility of institutional checks and balances.

The Special Act to Protect National Strategic Industries, enacted in 2022, restricts foreign investments in sectors deemed critical to national security. While this law aims to safeguard core technologies, it has also raised concerns among foreign investors about regulatory unpredictability. show a sharp decline in recent years, with 2025 projected to see the lowest FDI since 2019.

Moreover, the legal proceedings against Yoon have exposed weaknesses in corporate governance. Large chaebols like Samsung and Hyundai remain opaque, with executives facing arbitrary travel bans and legal scrutiny during investigations. The Korea Fair Trade Commission's revised designation rules in 2023 aimed to improve transparency, but foreign executives continue to cite these practices as burdensome.

Long-Term Investment Strategies: Navigating the Storm

For foreign investors, the key to navigating South Korea's current environment lies in diversification, patience, and a focus on defensive sectors. The prolonged political uncertainty has made high-beta stocks—particularly in export-driven industries—unattractive. Instead, investors should consider:

1. Defensive Sectors: Utilities, healthcare, and consumer staples offer relative stability. Companies like Korea Electric Power Corporation (KEPCO) and Shinhan Financial Group are less exposed to political volatility and benefit from domestic demand.
2. ESG Plays: South Korea's 2023 ESG evaluation guidelines have spurred growth in renewable energy and green technology. Firms like Hanwha Energy and LG Chem are well-positioned to capitalize on this trend, despite broader market jitters.
3. Hedging Strategies: Options and inverse ETFs (e.g., HEWZ) can mitigate downside risk. highlights the cryptocurrency's sensitivity to geopolitical uncertainty, offering an alternative hedge.

However, investors must also recognize the risks of overcorrection. South Korea's structural reforms—such as labor and healthcare policies—could eventually stabilize the economy. The challenge lies in timing these developments against a backdrop of political instability.

Conclusion: A Test of Resilience

South Korea's political instability has reached a critical juncture. While Yoon's arrest has deepened the “Korea Discount,” it has also underscored the need for institutional reforms that could, in time, restore investor confidence. For now, foreign investors must balance caution with strategic opportunism, prioritizing resilience over short-term gains.

The coming months will be pivotal. If the Constitutional Court's ruling on Yoon's impeachment (expected by mid-2025) brings clarity, the market could rebound. Until then, South Korea remains a high-risk, high-reward proposition—one where patience and prudence are paramount.