Episode 5: Thai Game- Soros up to Baht

Jim Grenn: Pin Chakkaphak was dubbed the “Takeover King” of Thailand in the 1990s for building his company, Finance One (aka FinOne), into Thailand’s largest finance firm.  Pin was a high roller.  He constantly jetted around the world, had homes in the U.S. and Britain, and played golf with leading business people and politicians.

Pin Chakkaphak also had an affinity for fast cars. His garage consisted of a various Ferraris, Porsche’s and plenty of other expensive toys.

But Pin’s real passion was for anything American.  He was educated at a New England Prep School, graduated from the University of Pennsylvania’s Wharton Business School and emphasized that FinOne would behave like an ‘American business’.  He hired other Thais that were US-educated, and offered stock options to employees; revolutionary for other businesses in Thailand at the time.  

More importantly, Pin borrowed money from American banks.  Seeing his success, other Thai business leaders followed suit.

When the Thai currency collapsed and economy fell into recession in the 1990s Pin’s dollar denominated debt would ruin his company and so many others in Thailand.  Pin became the fall guy for the entire country.  The government blamed much of the crisis on his company, and alleged that Pin secretly sheltered more than $80mil for himself.  Pin fled the country and remained overseas for more than a decade. 

This is Domino, an examination of an historical event that had a ripple effect on the global economy.

I’m Jim Grenn, the host of Domino.  Today we are going to examine the causes and impact of the Asian Financial crisis that took place in the late 90s…

It’s been 21 years since the collapse of Thailand’s economy, and the stock market in Thailand has yet to recover.

Kent Oliver:  Thailand is pretty big.  It’s roughly the same size as Texas, but Thailand has twice as many people.

Jim Grenn: That’s Kent Oliver.  He’ll help us paint a big picture of everything going on. 

Kent Oliver:  Thailand was just one of many smaller East Asian countries uniquely positioned to benefit from the economic booms in Japan and China.  South Korea, Malaysia, Singapore, and others were blessed with a relatively well educated and young work force.  But Thailand attracted the bulk of the attention from US investors.   

Brady Raanes:  Yeah, as you may remember from last week’s episode, globalization was a key trend in the Clinton administration through the 1990s.   

Jim Grenn: That’s Brady Raanes.  He’ll fill in a lot of the details for the questions you may have.

Brady Raanes: There was this belief that the US economy was maturing and companies would need to look overseas for growth.  Big companies scramble to expand abroad.   

Kent Oliver:  To cite just one example, Thailand has a big market for pickup trucks.  In fact, they were the second largest pickup truck market in the world outside of the US due to their concentration in farming and government incentives.  So, Ford announces that they are going to invest heavily and a build a $500 million plant in Thailand.

Brady Raanes: Ford held a pretty elaborate groundbreaking ceremony in which Buddhist monks reportedly sprinkled flowers and holy water to celebrate.  

Kent Oliver:  Ford was really just the beginning.  Billions of dollars flowed into Thailand in foreign investment.  With a young, fairly well-educated workforce so close to Japan and China, it was as if Thailand had discovered the fountain of economic growth. 

Jim Grenn:  Let me hit pause for a moment.  Why are investors piling into Thailand? 

Kent Oliver:  Who cares Jim, it’s the 1990s!

Jim Grenn: Yeah, you’re right… but really, why Thailand over any other country?

Brady Raanes:  The young, educated workforce that Kent mentioned was one big attraction.  Get this, the average age for the entire country of Thailand in 1995 was 26 years old. 

Jim Grenn:  Oh wow. So little kids… kind of like me… were pretty much running the show.

Kent Oliver: Something like that…

Brady Raanes:  Moving along.  Thailand had one unique advantage over most of their Asian counterparts.  Years earlier, the Thai government had decided that the Thai currency, the baht, would be pegged the US dollar. 

Jim Grenn: Ah, the fixed exchange rate, Brady, can you give our listeners a quick refresher?

Brady Raanes: Yeah, so, any country can choose to fixed the value of their currency to another at a set exchange rate.  Mexico was a great example that we discussion in the last episode.  When a country pegs their currency to another they remove the risk of currency fluctuations from one country to another and which generally attracts inflow and investment from one country to another.  So Thailand’s decision to peg their currency, the baht to the dollar attracted more US investors and companies because they didn’t have as much currency risk.

Kent Oliver: Pegged currencies work both ways.  Not only did it incentive US investment into Thailand but it also incentivized Thai businesses and citizens to borrowing US dollars.

Jim Grenn: I feel like I say this a lot, but whenever I hear of a foreign country borrowing heavily in US dollars it makes me think back to Latin American borrowing in the 1970s and how horribly that ended.  

Brady Raanes:  Yeah, you’re correct.  This story starts out pretty similar.  Thai investors wishing to borrow money had two choices, they could either borrow in their home currency, or they could borrow from US banks in dollars.  The US had slightly lower borrowing costs, so lots of Thai businesses borrowed in US dollars.

Jim Grenn: And why wouldn’t they?  The exchange rates were fixed, so they didn’t have to worry about the potential pitfalls of currency changes.

Brady Raanes: You got it.

Jim Grenn:  Interesting – but as we’ve seen in the last episode, currency pegs can get weird. 

Kent Oliver:  They sure can.  Let’s back up a minute.  Prior to the ‘Nixon Shock’, most currencies were pegged in some way to the US dollar and, as you’ll recall from our first episode, the dollar was pegged to gold.  This allowed for trade and capital to flow freely with insulation from currency fluctuations.  However, that changed in the early 1970s.  There were more dollars in circulation than the corresponding amount of gold needed back them.  When the US broke the convertibility feature between the dollar and gold most countries opted to allow their currency exchange rates to float freely in the open market. 

Jim Grenn: Right.

Kent Oliver:  By 1997, only a few countries still held to a fixed rate (or peg) against the dollar: China, El Salvador, Iran, Russia, Liberia, Nepal and Thailand.  A couple years earlier Mexico’s name would have been on the list.  Their currency crisis was an example of the downside to currency pegs. 

Jim Grenn: right.  So, how long had Thailand’s currency been pegged to the dollar.  Was this a new thing? 

Kent Oliver: No. For decades, Thailand had been able to navigate the peg without incident. 

Brady Raanes: Yeah, going back to 1973, following the ‘Nixon Shock’, Thailand settled on an exchange rate of 20 baht per dollar.  They later adjusted the ratio to 25:1 because of a stronger US economy but the currency peg remained in place, helping support a boom in exports from Thailand in the late 1980s and early 1990s. 

Jim Grenn:  When you say “they” adjusted it, I assume you mean the government...  but what exactly does that look like, Brady?

Brady Raanes:  Right… well, the Ministry of Finance more specifically.  Because remember, any country to free to do whatever it wants with its currency value.  Anyway, the fixed exchange rate incentivized foreign investment into the country.  Real estate development increased dramatically, most of it financed by money borrowed in US dollars.

Kent Oliver: It was a pretty wild economic boom… I mean, for example: Mercedes sales nearly tripled in the country 1992 to 1995.  Thailand became the eighth largest market in the world for the luxury automobile maker.  By 1996, Mercedes was unable to meet the demand in Thailand with direct imports and this strange ‘black market’ developed in which enterprising car dealers would purchase a Mercedes in Europe then ship it to Thailand for resale.  This strange backdoor car deal accounted for nearly 25% of all Mercedes sales in Thailand in 1996.

Jim Grenn: How were all these 26-year-olds able to afford a Mercedes?  They were obviously being paid more than…say… I don’t know… the director of client relations at an investment firm in Mississippi.

Brady Raanes: Thailand also briefly became the largest consumer of 12-year-old scotch in the world. 

Jim Grenn: I’m currently googling jobs and apartments in Thailand.

Kent Oliver:  Despite the Mercedes and high-end scotch consumption, and all the people easily finding girlfriends, behind the scenes, the party in Thailand was slowing.  Losses from Mexico’s NAFTA meltdown had dampened investor enthusiasm over the excitement of emerging markets.  The money flow in Thailand slowed dramatically following Mexico’s debacle. 

Brady Raanes: Also, in a seemingly unrelated headline, the US began increasing interest rates in 1994 and the US dollar strengthened dramatically against other currencies in 1995, specifically the Japanese yen. 

Jim Grenn:  And the Thai baht, still pegged to the dollar strengthened as well. 

Kent Oliver: Yeah, that’s one of the strange side-effects to a currency peg.  When a country pegs to another currency they are really at the mercy of that country’s economic policies

Brady Raanes: The increased strength in the dollar / baht peg meant that Thai products became more expensive to global consumers. The more expensive the Thai products looked the more exports slowed.   

Jim Grenn: I see.  And I assume Thailand’s economy was pretty sensitive to exports.

Brady Raanes: Yeah, exports were a key to their economy, which began to cool in late 1996.  Headlines appeared that overleveraged companies were having a hard time meeting debt their obligations.  Records would later reveal that 13% of all loans were failing to make regular payments, double from the previous year.

Kent Oliver:  One thing we haven’t really discussed yet is Thailand’s debt load.  This wasn’t a debt crisis in the typical sense of the term – bank debt was pretty high, but most of the det levels were rather normal, especially compared most present-day economies.  However, the real problem for Thailand was the sheer quantity of debt denominated in US dollars. 

Jim Grenn:  We don’t really see this regularly from US based companies.  I mean there would be no obvious reason for Proctor and Gamble to borrow money in a foreign currency.  But I can see where this would be prevalent in a country with higher interest if the ability to borrow in dollars in available.

Brady Raanes:  Good point – borrowing in a foreign currency is mostly done in under-developed countries who have access to US banks – much like Latin America in the 1970s.  In fact, the two scenarios are pretty similar.  In both cases you’ve got this unique combination of a dollar denominated debt boom, a slowing economy and a currency with a fixed exchange rate. 

Jim Grenn: I can already see the writing on the wall 

Brady Raanes: So could a hedge fund manager in New York named George Soros.


Brady Raanes: Soros is a pretty fascinating and polarizing character in the financial and political world.  He reportedly has a current net worth of about $25 billion… which, according to Forbes ranks him the 19th richest person in the world, the world's richest hedge-fund manager.  Even more amazing, Soros has reportedly given away more than $32 billion to charity. 

Jim Grenn: That’s chump change.

Brady Raanes:  Anyway, Soros also has plenty of enemies.  He is a big supporter of the democratic party here in the US and he has received blame for toppling governments and political regimes.  He really made headlines in the finance world by placing large currency bets through his hedge fund. 

Kent Oliver:  Like.  Massive bets.   

Brady Raanes:  In 1992, Soros saw an opportunity to profit by shorting the British pound following the British government’s decision to peg its value of the pound to the German Deutschmark.  Soros became convinced that the link couldn’t hold.  Now referred to as ‘Black Wednesday’, the Bank of England was eventually forced to revalue the pound, sending it down 15% against the German Deutschmark and 25% against the dollar.  Soros continued shorting the pound as the days went on.  His hedge fund, known as the Quantum Fund, reported made more than $7 billion on the investment, with Soros personally netting more than $1 billion.  In January of 1997, Soros’s firm set their sights on Thailand.

Kent Oliver:  Soros smelled blood in the water.  You see, the money that had flowed into the Thai economy over the previous 5 years should have pushed the Thai baht dramatically higher, but it hadn’t been able to because of the peg.  The dollar peg was keeping a lid on the currency and creating distortions throughout the system.  Now it appeared that the reverse was taking place? If US dollars continued flowing out of Thailand would the Thai government have enough reserves to prop of the value of the currency?

Jim Grenn: Was Soros privy to information that other people didn’t have?

Brady Raanes: No, it doesn’t appear so, but he had a somewhat unique theory about global markets.  He called it the theory of reflexivity.  Essentially, he said that more times than not, markets are in either a boom or bust state and that markets are very subject to feedback loops where investors pile into strong performing assets driving prices unsustainably higher or feeding into a herd-like mentality of selling poor performing investments and driving prices even lower.

When Soros saw an opportunity he just wasn’t afraid to make a massive bet.  In fact, his bets were so big they could actually move markets.    

Kent Oliver: Soros decided to place a bet that Thailand would be forced to let their currency float much like Britain had done 1992 and Mexico had done just a couple years earlier.  He decided to sell short the Thai baht with the belief that the currency would revalue itself.  This time Soros decided to take a slightly more conservative initial position with a $1 billon bet against the baht. He just needed something to trigger the crisis.

Jim Grenn:  Like most crises….  They take forever to form… then happen almost overnight.

Brady Raanes: Jim as you discussed in the intro, Finance One (aka FinOne) was that trigger.  At their peak they were the largest finance company in Thailand, valued at $5.5 Billion. The company had a relatively straight-forward business model, they made small business loans, margin loans, car loans, mortgages loans, to people that traditional banks passed on for one reason or another.  In return, FinOne was able to charge a higher interest rate than normal, but FinOne had done a horrible job of risk management.  Almost all of FinOne’s loans were concentrated in Thailand’s riskiest areas: real estate development and margin loans for stock investors. 

Kent Oliver: As the economy contracted in 1996, the number of FinOne’s non-performing loans doubled.  By early 1997 Thailand’s building binge was beginning was beginning to show cracks.  An estimated 365,000 apartment units sat vacant in Bangkok.

Brady Raanes: In first three months of 1997, FinOne saw its ratio of non-performing loans double again.  Nearly a quarter of all FinOne’s loans weren’t making regular payments.  Eventually, key real estate developed stopped making payments. 

Jim Grenn:  A finance company with a $5 billion market cap seems like a strange trigger point to a crisis.

Brady Raanes:  I agree – but it was just the straw the broke the camel’s back.  The Thai government organized a $1.5 billion bailout to FinOne before attempting to merge the organization with another bank.  The short sellers had their signal.  As insignificant as it seemed at the time, FinOne was the trigger.  With the country’s largest financial institutions insolvent, it suddenly became apparent that Thailand was on the verge of a financial crisis.

Kent Oliver:   By now word had gotten out that Thailand was in trouble…. And likely that Soros had a bet in place.  Speculators and other hedge fund managers followed Soros’ lead and began short-selling the baht.  The Thai government was forced to step in take the opposite side of the trade to protect the value of the currency.  The government began swapping billions of US dollars for the baht in an effort to prop up the failing currency.  Unfortunately, the Thai government didn’t have an endless reserve of US dollars, and Soros knew it.  It wouldn’t be long before they were out.

Jim Grenn:  Just like Mexico and NAFTA.   

Brady Raanes: The playbook was the same.  On July 2, 1997, just two days after the Prime Minister assured the nation that there would be no devaluation; Thailand’s central bank abandoned the peg.  Within hours the baht had been effectively devalued by almost 20%.  It continued falling, losing 40% of its value the next six months. 

Jim Grenn:  And I assume Soros made a killing?

Kent Oliver:  I’m sure, but he never disclosed his profit.

Brady Raanes: Forty-two other financial firms followed FinOne into insolvency; half of the nation’s banks and lending institutions.  Contagion gripped neighboring countries as money fled the region indiscriminately.  Indonesia’s currency, the rupiah, came under pressure in August of 1997 plunging more than 80% over the following year.  South Korea, Malaysia, and the Philippines each experienced currency value declines of more than a third.  

Kent Oliver:  Stock markets throughout the region fell dramatically; led by a 75% plunge in Thailand’s market.  The total value of the four Asian markets involved in the crisis, Thailand, Indonesia, South Korea, and Malaysia fell so far that their combined market value was less than the market value of General Electric at the time.    

Jim Grenn: I smell another IMF bailout.   

Brady Raanes: You have a good nose.  By the end of the summer, the International Monetary Fund (IMF) stepped forward with rescue packages throughout the region totaling more than $40 billion.  The US kicked in a little more. As expected, in return for the austerity package, the Asian countries agreed to some form of budget cuts, along with increased interest rates and taxes.

Kent Oliver: Car sales fell by more than half by 1998.  Demand dried up just as Ford began to roll their pickups off the assembly line.  Still, Ford pushed forward.  They launched a new marketing campaign, involving a country-western singer from Texas performing with a group of Thai dancers swaying in the background to a jingle titled, “I'm Crazy About My Ford Truck.”  It didn’t help.

Brady Raanes: Government leaders lashed out at the currency speculators, blaming the demise of their currency on a well-orchestrated conspiracy.  Speculators like George Soros were an easy target, but in my opinion, they weren’t the root of the problem; they merely acted on the opportunity.

Kent Oliver: In hindsight, Thailand’s meltdown followed the same footprint as every sovereign crisis before it.   Debt and a lack of risk management spurred a boom.  Economic forces changed and caught investors off-guard.  Overinvestment into unproductive areas like real estate ultimately created a crash and a crisis that spilled over into a government concern.  The real cause of the crisis was excessive borrowing and blind risk taking; the root of most financial crises.

Brady Raanes: Good point.

Jim Grenn: Was this another “lost decade” scenario, except for Thailand?

Kent Oliver:  The economy did contract pretty hard.  In 1997, the sales of Mercedes dropped 45 percent. The sale of wine dropped 22 percent.  Hospitals desperate for cash began offering discounts on Caesareans births and open-heart surgery.

Jim Grenn: What an eclectic collection of facts.

Brady Raanes: In general, the region’s economies bounced back much quicker than did Latin America’s in 1980s.  Within six years, the bulk of IMF loans had been repaid and the economies had recovered back to the pre-crash levels. 

Kent Oliver: For Thailand, however, the damage to investors remains.  The stock market has yet to recover more than 20 years after the fall.  After peaking at 1754 in 1994 the index just this year barely surpassed that mark and today sits below it.  

Jim Grenn: This is the second time we’ve discussed an Asian country’s stock market plummeting and taking 20 plus years to recover.  I guess I didn’t realize it was so common.  

Brady Raanes:  Yeah, I agree.  Most investors don’t even model that scenario as a possibility, but there are even plenty of instances, even in America were the US market fell dramatically took a really long time to recover. 

Kent Oliver:  In most instances, the rise and subsequent meltdown is debt related, which is why it was a little surprising that the US markets snapped back so quickly after the 2008 meltdown.  I mean, that could have easy been a time where market languished for decades.    

Jim Grenn:  Good point.  The currency crisis in Thailand coupled with the Mexico currency crisis served as a warning to investors about the danger of fixed currencies.   Next week on Domino we will discuss the one seemingly unknown consequence of the falling Thailand domino that lead to a Russian bond default and the implosion of a relatively small hedge fund in Grinitch Connecticut that sent shockwaves through the US financial system and gave birth to a new term, “too big to fail.”