"It appears that Kim Jong Il’s transfer of power to his youngest son Kim Jong-Un (age 27) may be turning out to be a bumpy one, requiring more hawkish behavior to burnish the son’s leadership credentials with Pyongyang’s military," said Win Thin, Global Head of Emerging Markets Strategy for Brown Brothers Harriman, in a note to clients. "Besides this possible tension with the military, some believe that Kim Jong-Il’s brother-in-law Jang Song-Thaek (age 64) could attempt to wrest power from the younger Kim. Recent behavior is erratic even by North Korean standards."
North Korea fired large amounts of artillery at a South Korean island overnight, killing two soldiers and injuring dozens. The dollar and gold rose and global equity markets declined as investors sought safe havens under this new uncertainty.
"It appears that with the elevation of Kim Jong-Il’s son to a position of authority within the North Korean hierarchy and especially within the North Korean military that the younger man is trying to establish his credentials as a military leader, and that North Korea is hoping to establish its seriousness as a military opponent to the South, worthy of consideration rather than derision," wrote Dennis Gartman of The Gartman Letter, in his note to clients. "Too, there is always the concern that can never be wholly cast aside that Kim Jong-Il is a madman late in life, dying, and therefore capable of utter madness when it comes to foreign policy and war."
Commodities were particularly hard hit on concern this could disrupt global trade amongst China, Japan, the U.S. and other nations. Tensions are already running high as China institutes price controls to control inflation it blames the Federal Reserve with creating. To boot, President Obama was unable to secure a free trade agreement on his trip last week to meet the leader of South Korea.
The iShares MSCI South Korea Index Fund (EWY), the most-direct way for U.S. investors to trade the tensions, plunged by more than five percent and showed no signs of rebounding. The ETF is still up 12 percent on the year as exporters such as Hyundai and Samsung ride an slow economic recovery. Seoul just hosted the G-20 meeting of finance ministers earlier this month.
North Korea is still under United Nations sanctions as it continues to pursue, and by some accounts, operate, nuclear weapons facilities.
"These moves by Pyongyang come at a time of extreme nervousness in the markets and so a significant Korean Won bounce may not be seen until 2011," said BBH’s Thin. Emerging market "currencies are down across the board as risk off trading prevails in the face of Korean tensions as well as renewed pressures in the peripheral Euro zone. Indeed, we continue to feel that EM currencies have likely seen the highs for 2010 and that we are in a near-term EM bear trade through year-end."
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John Melloy is the Executive Producer of Fast Money. Before joining CNBC, he was an editor for Bloomberg News, overseeing the U.S. Stock Market coverage team