Sharp MXAPJ pullback, with foreign outflows from Korea and Taiwan emerging as the core risk signal this week

Overview

This report is Goldman Sachs' Asia Pacific strategy weekly, focusing on MXAPJ's weekly decline in a high-volatility environment, large foreign outflows from Korea and Taiwan, the volatility amplification mechanism driven by Korean leveraged ETFs and short gamma, MSCI's latest decisions on market classification for Korea and Indonesia, and investment opportunities in the Asian space economy theme. The report also covers hedge fund and mutual fund positioning, regional market and sector scorecards, macro forecasts, upcoming catalyst events, valuations, flows, volatility, and policy risk indicators.

Core views

The core views are: first, the near-term risk stance on Asia ex-Japan equities is cautious because MXAPJ retreated 4.5%, cyclicals were sold off, and foreign outflows were concentrated in Korea and Taiwan, China; second, although Korea remains an overweight market for Goldman Sachs, leveraged ETFs, short gamma, and rising forced margin liquidation ratios could amplify two-way volatility; third, MSCI retained Korea and Indonesia in emerging market status, with Korea still requiring market access reforms for a developed market upgrade, while Indonesia's free float and investability risks still need monitoring; fourth, the Asian space economy theme is supported by structural demand, earnings momentum, and valuation discount; fifth, fund positioning shows Asian equities were net sold during the month, with short selling dominating flows, while mutual funds continued rotating across selected markets and sectors.

Analysis framework

The report uses a regional strategy framework that combines analysis of market performance, sector rotation, valuation, earnings revisions, foreign flows, fund positioning, macro forecasts, and policy risks. The discussion of Korean volatility uses leveraged ETF scale, market-maker gamma rebalancing, implied volatility, skew, and forced liquidation ratios to identify structural market risks; the MSCI classification analysis uses market access, free float, and investability criteria to assess potential passive flow implications; and the Asian space economy theme is screened from the perspectives of capital inflows, value-chain segmentation, earnings momentum, relative performance, and valuation discount.

Methodology notes

• Regional market scorecardGoldman Sachs Asia regional market/sector scorecard

  A comprehensive comparison of market allocation, returns, valuation, growth, earnings revisions, and foreign flows

  The scorecard presents Goldman Sachs' strategic views by market and sector, MXAPJ weights, 1-week to year-to-date performance, forward P/E, P/B, dividend yield, 10-year valuation percentiles or Z-scores, 2026/2027 earnings and sales growth, ROE, and net foreign buying.

• Flows and positioningHedge fund and mutual fund positioning monitor

  Use month-to-date flows, short selling, gross leverage, net leverage, and EPFR active fund allocations to gauge risk appetite

  The report shows Asian equities were net sold during the month with short selling dominating, while Japan, China, and Korea saw heavier selling pressure; EPFR data show AEJ and EM active funds reallocating across markets such as China, India, Taiwan, China, and Korea.

• Volatility and market structureKorean leveraged ETF and short-gamma volatility amplification framework

  Leveraged ETF rebalancing and market makers' short gamma can generate procyclical buying and selling pressure on days of large market moves

  Korean leveraged ETF assets are very large, and on some trading days gamma rebalancing can exceed 30% of Korea's market turnover; combined with rising KOSPI200 implied volatility and higher forced margin liquidation ratios, this amplifies two-way market volatility.

• Index classification riskMSCI annual market classification review

  Assess index classification changes and passive flow impact through market access, FX liquidity, free float, and investability

  MSCI did not add Korea to the watch list for developed market upgrade, while Indonesia temporarily avoided immediate downgrade consultation; however, if Indonesia were downgraded to frontier market status, it could trigger MSCI-related passive outflows.

Asset mapping & comparison

Structured mapping from thesis to named assets (strengths, weaknesses, peers, risks).

• MXAPJ

  Core covered index and representative regional risk asset

  Strengths

  Covers major Asia Pacific ex-Japan markets, making it useful for observing regional equity risk appetite, earnings revisions, and valuation changes.

  Weaknesses

  It fell 4.5% this week, dragged down by offshore China, Korea, and Indonesia, with significant pressure from foreign outflows.

  Comparison

  Singapore, India, and Australia relatively outperformed; offshore China, Korea, and Indonesia relatively underperformed.

  Risks

  Continued foreign outflows, USD and rate volatility, geopolitical events, crowded sector trades, and downward revisions to earnings expectations.

• Korean equities / KOSPI200

  An overweight market in Goldman Sachs' regional allocation and also the key focus of this week's volatility risk

  Strengths

  Goldman Sachs maintains its overweight, with earnings growth and North Asia tech-related momentum still acting as support factors.

  Weaknesses

  Foreign outflows, the large size of leveraged ETFs, market makers' short gamma, and rising forced margin liquidation ratios are amplifying volatility.

  Comparison

  Korea was among the worst performers this week, but Goldman Sachs' allocation view remains more favorable than for several Southeast Asian markets.

  Risks

  Elevated KOSPI200 implied volatility, deleveraging of leveraged capital, slower-than-expected progress toward MSCI developed market upgrade, and continued foreign selling.

• Taiwan, China equities

  An overweight market in Goldman Sachs' regional allocation, with high flow volatility

  Strengths

  High exposure to technology hardware and semiconductors, with continued support from regional earnings revisions and thematic growth.

  Weaknesses

  FII outflows were about US$11.3bn this week, and valuation plus foreign ownership are sensitive to global tech risk appetite.

  Comparison

  Taiwan, China is overweight in market allocation, but mutual funds still show a deep underweight versus benchmark.

  Risks

  Continued foreign outflows, tech-cycle volatility, cross-strait risks, and cooling in crowded global AI/semiconductor trades.

• China A-shares and offshore China equities

  China A-shares are overweight, while China overall and Hong Kong are neutral

  Strengths

  A-shares are relatively more attractive than offshore China from an allocation perspective, some sectors still have room for valuation recovery, and EM funds have recently increased China exposure.

  Weaknesses

  Offshore China was among the worst performers this week, and a tighter fiscal deficit stance suggests second-quarter fiscal support may weaken.

  Comparison

  Goldman Sachs is more constructive on China A-shares than on China overall and Hong Kong; EM funds have shown a notable one-month increase in China allocation.

  Risks

  Escalation of China-US restrictions, weaker-than-expected fiscal support, lagging performance in consumption and internet/media sectors, and earnings revisions disappointing expectations.

• Indonesian equities

  An underweight market in Goldman Sachs' regional allocation and a key focus for MSCI classification risk

  Strengths

  MSCI has not initiated immediate downgrade consultation, and recent disclosures and free-float rules have improved somewhat.

  Weaknesses

  Free float, ownership-structure transparency, and investability remain concerns, while year-to-date performance and foreign flows are still under pressure.

  Comparison

  Compared with Korea and Taiwan, China, Indonesia is not only lagging in performance but also faces potential index-weight adjustments or frontier-market reclassification risk.

  Risks

  If downgraded to frontier market status, it could trigger MSCI- and FTSE-related passive outflows; there are also continued risks around coordinated trading and insufficient free float.

• Asian space economy basket GSSZSPCE

  Thematic investment opportunity and Goldman Sachs strategy basket

  Strengths

  Supported by structural demand, policy support, earnings delivery, and under-allocation by thematic capital; related Asian companies trade at a valuation discount relative to global peers.

  Weaknesses

  The theme is still at an early stage, with differentiated performance across subsegments; the ground segment and downstream applications are relatively lagging.

  Comparison

  Asian space economy stocks previously moved in line with global peers, but underperformed global names from April to May and have rebounded since June.

  Risks

  Reversal in thematic fund flows, liquidity pressure among global peers, weaker-than-expected policy progress, and uneven earnings delivery.

Key data

• MXAPJ weekly performance-4.5%The index pulled back significantly this week, with volatility rising.
• Relatively resilient marketsSingapore, India, and Australia were all close to flatThese markets outperformed MXAPJ on a relative basis this week.
• Lagging marketsOffshore China, Korea, and Indonesia each fell about 5%-6%These markets were the main drags on the regional decline this week.
• Sector performanceHealthcare, consumer staples, and real estate led; autos, consumer retail, and internet/media laggedSector rotation indicates defensives and real estate were relatively stronger than cyclicals and growth consumption.
• Foreign outflows from emerging Asia ex-ChinaUS$22.1bnThe largest weekly FII outflow since 2000, driven mainly by Taiwan, China and Korea.
• Taiwan, China FII outflow-US$11.3bnAt the same time, Taiwan, China saw about US$8.1bn of retail buying this week.
• Korea FII outflow-US$10.4bnForeign net selling in Korea this year has reached around US$87.3bn.
• Korean leveraged ETF asset sizePeak above US$45bnEquivalent to leverage exposure of about 2.7% of market free-float capitalization.
• Korean gamma rebalancing pressureCan exceed 30% of Korea market turnover on high-volatility daysLeveraged ETFs and market makers' short gamma create procyclical buying and selling pressure.
• KOSPI200 3-month implied volatilityBriefly rose to 80%Compressed skew and the short-gamma structure suggest volatility pressure remains elevated.
• Korean forced margin liquidation ratio3%-6%During the recent drawdown, daily forced liquidation as a share of broker receivables increased, showing pressure on newly added leveraged positions.
• MSCI Korea classificationNot added to the watch list for developed market upgradeKorea still needs progress on reforms including extended-hours FX liquidity, offshore KRW convertibility, investor ID, in-kind transfers, and data restrictions.
• MSCI Indonesia classificationTemporarily avoided immediate downgrade consultationFree float and investability issues remain under review, and risks are not fully eliminated before the November 2026 update.
• Potential passive outflows from IndonesiaAbout US$5bn MSCI-related, plus another roughly US$3.5bn if FTSE followsA downgrade to frontier market status could trigger passive fund reallocation.
• Asian space-theme fund sizeMore than 40 global funds with combined AUM of about US$24bnSpace-themed funds have seen notable inflows since 2025.
• Asian space economy valuationTrading at a deep P/E and P/B discount versus global peersThe report believes valuations are near the low end of the historical range, making risk-reward attractive.
• Asian long-short fund leverageGross leverage 187.6%, net leverage 57.0%Gross leverage has fallen sharply during the month, at the 1st percentile over one year and the 59th percentile over five years.
• US 12-month recession probabilityLowered from 25% to 15%Related to the forecast revision by Goldman Sachs' US economists after the US-Iran agreement.
• India CY26 GDP forecastRaised to 6.8%At the same time, the inflation forecast was lowered to 4.4%.
• Goldman Sachs regional allocationOverweight Korea, Taiwan, China, Japan, and China A-shares; underweight Australia, Indonesia, the Philippines, and ThailandChina, Hong Kong, India, Malaysia, and Singapore are neutral.

Impact & implications

The implication for portfolios this week is that short-term Asia Pacific equity investing needs to place greater emphasis on flows and market-structure risks, rather than looking only at valuation or earnings revisions. Korea and Taiwan, China may continue to face greater volatility due to foreign outflows, tech-heavy index weights, and derivatives rebalancing; Indonesia's index-classification risk could affect passive flow stability; China-related assets are influenced by geopolitics and the pace of fiscal support; and the Asian space economy offers a structural thematic opportunity distinct from traditional cyclical volatility. Overall, the report supports maintaining selective risk exposure within the region while continuing to monitor flows, volatility, and policy catalysts.

Risks

• Continued large foreign outflows from Korea and Taiwan, China could intensify regional index volatility.
• Korean leveraged ETFs, short gamma, and forced margin liquidations could create procyclical selling pressure on days of large market moves.
• If Indonesia is later downgraded by MSCI or FTSE, it could trigger passive outflows.
• Escalating China-US geopolitics and export restrictions could weigh on risk appetite for China-related assets.
• Weaker Chinese fiscal support could drag on growth expectations and corporate earnings revisions.
• If thematic fund and technology-related trades become more crowded, drawdowns could bring liquidity pressure.
• Changes in FX, rates, and commodity prices could affect regional equity valuations and cross-border capital flows.

What to watch

• Korean President Lee is expected to announce large-scale investment plans related to semiconductors, AI data centers, and embodied AI.
• Progress in Korea's market-access reforms, as well as the MSCI developed market upgrade review in June 2027.
• Improvements in Indonesia's free float, investability, and ownership disclosure before the MSCI update in November 2026.
• FII flows in Taiwan, China and Korea, and whether retail buying can offset foreign selling pressure.
• KOSPI200 implied volatility, skew, gamma exposure, and forced margin liquidation ratios.
• The pace of fiscal support in China, as well as the follow-on impact of China-US export restrictions and government procurement restrictions.
• Allocation changes by AEJ and EM active funds to China, Korea, India, and Taiwan, China.
• Whether flows, earnings revisions, and valuation discounts in the Asian space economy theme can continue.