South Korea’s stock market will continue its rise this year on the back of a strong domestic economy and continued capital inflow, says Eugen Löffler, Asia-Pacific chief investment officer at Allianz Global Investors (AGI).

He was in an optimistic mood when he spoke to AsianInvestor, talking up the merits of Korea’s phalanx of cash-rich companies, which are well placed to strengthen their competitive position in the global marketplace.

“2010 was a good year for the Korean stock market,” notes Löffler. “Korea recovered early and vigorously from the global financial crisis and is benefiting from brisk exports as well as a strong domestic economy.”

He also notes that China’s continued economic growth and its concerted shift towards domestic consumption bodes well for export-orientated Korea.

And yet a number of Korean equity analysts have highlighted that average Kospi valuations are below peer markets around the world, despite the stock index rising 21.88% last year.

Based on the MSCI Korea, the 12-month forward price-to-earnings ratio is 10.24x, as against China and Taiwan 12-month forward P/Es of 11.85x and 13.32x respectively. There’s also a valuation gap to developed markets; US 12-month forward P/E is 13.29x and Japan forward P/E 13.78x, as of December.

Transport equipment and chemicals were the best performing sectors, while non-cyclical sectors such as electricity and gas and medical supplies were the laggards.

The relative cheapness of Kospi stocks has not gone unnoticed by both the domestic and international investor community. According to the Korea Financial Investment Association (Kofia), the first half of December alone saw more than $700 million pour into equity-type fund products, a sharp increase on the $300 million monthly average from mid-2010 onwards.

There has been something of a shift in terms of secular domestic demand for Korean equities from major institutional investors, including public and private pension funds, as well as retail investors, says Löffler.

In fact, the expectation is that if the Kospi sustains its present level for a few more months, there is a good chance of a re-rating of the market over the next few years, he argues. That is, investors may apply a higher relative valuation to the Korean market that fully reflects the competitive strength and business prospects of domestic companies.

Löffler also offers a buoyant outlook for global equities, given the continued economic recovery from the financial crisis and the rising spectre of an inflationary impact.

“At this stage of the economic and market cycle, rising bond yields should not derail stock markets,” he says. “Emerging markets, and especially Asia, have a good chance to continue delivering attractive returns to investors based on higher growth dynamics and strong fiscal positions.”

Löffler stresses that AGI is putting an increased emphasis on equities and Asia equities in particular, specifically small caps. For example, in Taiwan, the firm has just completed the IPO of the Allianz Global Investors Asian Smaller Companies Fund. The fund almost reached its AUM ceiling in the second day of the IPO period.

Löffler transferred to Korea in mid-2010, when he assumed the position of regional CIO at AGI. For the previous five years he had worked as CIO of Allianz Suisse in Zurich, Switzerland.

It represents a return to the country for him, given that from 1999 to 2005 he worked first as CIO of Allianz Life Korea and then as the founding CEO of the predecessor to AGI Korea.