Investors see South Korea’s bond and stock markets still highly vulnerable to external shocks despite improved economic fundamentals, data showed on Sunday.

The Korean financial markets recently flucuated far more than other markets in the wake of the global shock sparked by the downgrade of the U.S. credit rating and the continuing debt woes in Europe. The country’s cost of insuring eight-year sovereign debt shot up to a nine-month high Friday to 122 basis points, the highest level since Nov. 30 last year when the North’s attack on Yeonpyeong Island sent the figure soaring to 129 basis points. One basis point equals 0.01 percent.

Credit default swap spreads the cost of insuring the bond against the risk of default. The higher the number, the more likely the market demands premium on the purchase for the increased risk.

“Declining market conditions in U.S. and Europe are taking a toll on the economy. Some brokerage reports have an excessively negative outlook for the Korean economy, but the risk is increasing and policymakers need to watch out for possible credit crunch,” said Jeong young-sik, a research fellow at Samsung Economic Research Institute.

Foreign capital began exiting from Seoul stocks and bonds, driving the won down against the U.S. dollar for a fourth consecutive week. Over 1.212 trillion won ($1.12 billion) flew out of the local bond market this month as of Friday, fanning fear of another credit crunch of the 2009-kind.

The Korean won fell 0.82 percent in the past week against the greenback, reversing some relief from exporter’s demand for the currency earlier this month.

Stocks also had a brutal week, plunging to a two-year low on Friday. The benchmark KOSPI tumbled 6.22 percent, or 115.7 points, to close at 1,744.88. It was the third biggest daily decline in the index’s history following a 126 point drop on Oct. 16, 2008 and a 125.91 drop on Aug. 16, 2007.

Economists say the local financial market will stay volatile for the time being on heightened concern that the U.S. might fall back into a recession. Europe’s debt problems would continue to drive investors toward safe haven assets such as gold, U.S. treasuries and away from emerging market stocks.

Morgan Stanley on Thursday cut growth forecast for the economy from 4.5 percent to 3.8 percent this year, citing the increased vulnerability with trade on external shocks. The forecast is below the government’s outlook of 4 percent.

The investment bank also lowered its projection for next year from 4 percent to 3.6 percent.

“Along with our global GDP forecast downgrades, we are cutting our projections of Korea GDP,” Sharon Lam, a Korea expert at the investment bank said in a report.

“Now with possible external shocks, ad adjustment is even more warranted. Income and capex growth will deteriorate, which will lead to slower employment,” she said.

By Cynthia J. Kim (cynthiak@heraldcorp.com)