North Korea and Trump Both Take Stances That Allow No Retreat

 | Aug 09, 2017 | 6:30 AM EDT
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Asian investors were spooked on Wednesday by the bellicose bluster of President Donald J. Trump over North Korea, which produced an equally warlike response. 

Arms folded across his chest, Trump fired off a verbal barrage that was remarkably blunt.

"North Korea best not make any more threats to the United States," Trump said. "They will be met with fire and fury like the world has never seen." 

Hours later, North Korea made another threat. The nuclearized nation, in equally fiery and furious manner, said on Wednesday that it has developed plans to strike U.S. forces in Guam. 

Will this war of words come to more? That's what investors in Asia were weighing on Wednesday. We're already at a point where neither side will want to back down.

Stocks in Seoul of course felt the brunt of the impact. The benchmark Kospi fell 1.1%. But so too did the broad Topix index in Tokyo, which is equally in Pyongyang's firing range.

Trump is on vacation in New Jersey, and was speaking from his golf club in Bedminster. So he obviously wasn't all too happy to have his tee time disturbed by Kim Jong-un.

North Korea, already a pariah nation, appears willing to test his resolve. What will Trump do, now his warning not to make any more warnings led to another warning?

A spokesman from the Korean People's Army on Wednesday said his forces are "carefully examining" an operational plan to attack the areas around Guam with "enveloping fire" to contain U.S. forces there, in a statement carried by the official North Korean news agency, KCNA. 

Two U.S. B-1 bombers flew from Guam and over the Korean peninsula on Monday. North Korea would call its Hwasong-12 medium-to-long range ballistic missiles into action under the attack plan, which will be reported to the military supreme command "soon."

North Korea, with a standing army of 1.2 million and a mandatory decade of military service for men, in another statement accused the United States of waging a "preventive war" against it.

Any plans to carry that out will be met with "all-out war wiping out all the strongholds of enemies, including the U.S. mainland," Reuters reports.

For those who haven't been there, Guam is more American than America. It's a holiday hodgepodge of the Hard Rock Café, TGI Friday's, the Hyatt and the Hilton peopled by Japanese honeymooners and crew-cropped U.S. military personnel.

It's one of those weird "U.S. territories" that are, but aren't part of the country. But with the massive Andersen Air Force Base patrolling the Pacific and a naval base that includes a submarine squadron to boot, it's not a place where you want to test U.S. military might, or resolve.

North Korea's ire was stoked by the passing over the weekend of a resolution by the U.N. Security Council to ban North Korean exports of goods such as coal, metals and seafood, exports that amount to around one-third of its foreign sales. 

It generated $4.2 billion in exports in 2015, according to the most-recent figures from the CIA World Factbook, with three-quarters of those sales going to China. Likewise, three-quarters of its $4.8 billion in imports come from China.

Will South Korean stocks slide further? There's a good chance of that, if the tension gets any more intense. Investors in Asian markets do an excellent job of completely ignoring geopolitical risks in the region, but even they are clearly surprised by the intensity of this latest verbal joust. 

With Seoul and Tokyo off that 1.1%, it was a wall of red on the screens monitoring Asian exchanges. Hong Kong's Hang Seng index likewise dropped almost 1% in intraday trade, although it ended down 0.4%.

Financials were the main fallers, and their heavy weighting in Hong Kong's China composite index brought that down as much as any index in Asia, off 1.1%. Shanghai's composite index closed down 0.3%, having shed half its intraday losses.

But the Seoul and Hong Kong exchanges remain some of the top performers among world markets this year -- despite the ongoing batting back and forth of insults between Washington and Pyongyang.

Seoul's rally is clearly at risk, and bold investors could consider timing the market or even shorting Korean stocks.

The Direxion Daily South Korea Bull 3X Shares ETF (KORU) was down 3.3% on Wednesday thanks to its tripling down on Korean stocks. By far the largest U.S.-listed product tracking South Korean stocks is the iShares MSCI South Korea Capped ETF (EWY) , which fell 0.9% on Wednesday.

The Kospi is now down 3.9% since setting an all-time high on July 24, when it was up 21% for the year so far. It has, then, given up one-fifth of its gains for 2017 in a little over two weeks.

There has been remarkably little spillover. The Hang Seng is the top-performing major market, up 26% in 2017. That's on the back of a handful of stocks, chiefly Chinese online-gaming giant Tencent Holdings (TCEHY) , which has leaped 74% this year. The concentration of gains leaves it looking volatile.

I doubt very much that we'll see any conflict on the Korean peninsula now, or missiles flying back and forth across the Pacific. The Korean army is right that any such conflict would basically be Armageddon.

But we'll still see a lot more chest-thumping and desk banging, that's for sure. There will be more missile tests out of North Korean soil, and more bomber and destroyer missions from U.S. forces in the area.

It won't take much for a mistake to happen. In 2010, North Korea fired dozens of artillery shells at a South Korean island in the Yellow Sea, after South Korea conducted war games there. Two South Korean marines and two civilians died in what South Korea considers the first attack on its soil since the 1950-53 Korean war.

North Korea's military ambitions are certain. It has already joined the ranks of the world's nuclear powers, according to intelligence reports. And it is already able to hit another nation with those weapons, by one account -- South Korea or Japan top of the list.

North Korea has already produced a nuclear warhead that is small enough to fit inside its missiles, according to The Washington Post, citing analysis from the Defense Intelligence Agency. It may have as many as 60 nuclear weapons, U.S. intel shows, and is working faster than expected on delivering an intercontinental ballistic missile that could reach cities such as Seattle and Los Angeles.

Trump threatened no more threats. North Korea threatened back. Now what? Investor beware.

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