VOLATILITY ANNIVERSARY SERIES™
Tom Yum Kung Asian Financial crisis: OCTOBER 28, 1997
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In the latter part of the 1990’s, Thailand and other Eastern-Asian countries experienced a period of high interest rates, while many other western countries - the U.S. included - enjoyed much lower rates. This divergence caused many Eastern-Asian investors to borrow Dollars to spend in their home countries. This influx of new investment primarily concentrated in stocks and real estate, which eventually created an economic bubble as investor speculation caused the prices of assets to increase unjustifiably.
The impending bubble eventually led to the devaluation of the Baht, Thailand’s currency. Simply speaking, the Baht lost its value relative to other currencies. Speculators began to short the currency, exacerbating the dilemma. The Thai government responded by tapping their foreign reserves to attempt to prop up their currency. These reserves eventually ran dry which prompted the government to float the Baht, unpegging the currency from the Dollar, leading to further depreciation of Thailand’s currency. Those investors who borrowed Dollars to sink into the Thai economy saw their debts double over a six-month period. The Eastern-Asian stock markets fell, financial institutions failed, many businesses went bankrupt, and the real estate market crashed, resulting in a 1.4 trillion national debt.
The International Monetary Fund (IMF) stepped in to refill the affected countries reserves, loaning 36 billion to Indonesia, South Korea, and Thailand. By the end of the crisis, the IMF would have lent nearly 100 billion to stabilize the currencies of the region.
The Tom Yum Kung crisis gripped much of East-Asia raising fears of a potential global economic crash. While foreign exchange volatility soared, U.S. equity volatility was relatively muted until U.S. markets began to react to the possibility of this crisis hitting closer to home. The VIX volatility index would rise 116% in just three days. GDP growth rates were cut sharply as the contagion spread across the globe. U.S. Equity markets were rather resilient, falling 10.82% over the course of two weeks, but stabilizing within two months. East Asian markets would continue to feel pressure into 1998, dropping over 50%.
Sources: Bloomberg Finance