10 Obscure Currencies Affected by the Credit Crunch

The majority of forex traders limit themselves to the so-called major currencies because such are easy to monitor and trade with high liquidity/stability. In fact, the US Dollar, Euro, Pound Sterling, and Japanese Yen alone account for approximately 75% of daily forex volume. As a result of the credit crisis (as well as the global economic boom that preceded it), however, a handful of lesser-known currencies suddenly achieved prominence. Currency traders would be wise to pay attention to these currencies for two reasons. First of all, such currencies may account for a larger share of forex volume in the future, as the brunt of global economic growth will likely be realized by emerging market economies. Second, if the credit crisis has taught us anything, it is that "decoupling" is a falsehood, and in fact, the global economy is more intertwined in itself than ever. Thus, understanding the factors that drive economic growth in the developing world is key to understanding the economic situation in the industrialized world. In short, I have culled 10 currencies from a pool of over one hundred, which are profiled below for your edification.

  1. Korean Won: While its acceptance by the Continuous Linked Settlement Bank would suggest that it has become a major currency, the Korean Won remains relatively obscure, hidden from view by its more prominent cousins in Asia: the Japanese Yen and Chinese Yuan. In the wake of the credit crisis, however, the Korean Won has increasingly found itself in the spotlight. Since July, it has declined more than 50% against the USD. The Bank of Korea responded by warning bearish traders, and has threatened to deploy part of its stockpile of foreign exchange reserves (estimated at $250 Billion) to prop of the currency. This is more than mildly ironic, considering only last year, the Central Bank suggested that forex intervention would be required to depress the rising Won. In any event, with the exception of a couple slight reprieves, the Won’s downward spiral has continued unimpeded. At this point, it’s unclear what it will take to restore confidence in the battered currency. Perhaps, if the Central Bank made good on its promise to defend the Won and flexed its muscles a bit, market bears would be pursuaded to leave the currency alone.
  2. Mexican Peso: There are many parallels between the Mexican Peso and the Korean Won. Not even one year ago, the Mexican economic boom had turned the Peso into a respectable currency, such that CLS began settling trades denominated in Pesos. The future was bright, as one analyst remarked in June 2008: "A decade of fiscal discipline, political stability and export diversification is also likely to help the Mexican peso in the near term." No one could have predicted the train wreck that began shortly thereafter and wrought a 30% decline in the currency in a matter of weeks. As for the future, the picture remains nuanced. On the one hand, the Peso is caught in a downward spiral that is grounded in financial, rather than economic factors. To explain, over the last few years, investors and corporations (including many based in Mexico) engaged in risky derivatives transactions under the assumption that the Peso would continue rising indefinitely. The souring and subsequent unwinding of such trades has left the Peso in a "short-squeeze", from which it is having trouble escaping. On the other hand, investor confidence can’t possibly ebb much further, and even minor positive developments are probably sufficient to send the Peso skyward. Of course, investors should also remember that the US government stepped in on behalf of the Peso the last time it collapsed.
  3. Indian Rupee: Next is the Indian Rupee, which recently breached the important psychological milestone of 50 per Dollar and touched an all-time low in the process. A collapse in Indian equity prices, combined with runaway inflation have caused a self-fulfilling panic among foreign investors, who are now moving capital out of India as quickly as they once brought it in. The Central Bank has responded dutifully by raising interest rates and buying Rupees on the spot market, but these measures merely slowed- rather than halted- the currency’s precipitous decline. Ignoring the credit crisis (admittedly a dubious supposition), the prognosis for the Rupee is quite good. The Central Bank has all but scuttled the fixed exchange rate regime and appears open to allowing it to rise, should the markets support such a move. As the Indian economy continues to play catch-up with China, perhaps the Rupee could even compete with the Chinese RMB as a regional reserve currency.
  4. Iceland Krona: Prior to the credit crisis, analysts had praised Iceland for deregulating its banking sector and restructuring its economy around financial services. Foreign savers opened accounts in Icelandic banks in order to take advantage of stratospheric interest rates, and investors rushed headlong into Iceland’s stock market to take advantage of lofty valuation levels. The result was a currency that was the most overvalued in the world in 2007, according to at least one measure. Since then, the Krona has lost more than half its value, the benchmark stock market index has declined a whopping 93%, its debt has been downgraded, the Central Bank has raised interest rates to 18%, and all of Iceland’s major banks have filed for bankruptcy and/or been nationalized by the state. Some of Iceland’s Scandinavian neighbors have helped shore up its financial position; it is also in talks with the International Monetary Fund to secure a loan. While the government’s current financial condition remains surprisingly robust, the looming downturn in the economy could force it into bankruptcy, which would certainly wreck additional havoc on the Krona.
  5. Vietnam Dong: The Vietnam Dong occupies a unique position on this list, as one of the few emerging market currencies not to have been crushed by the credit crisis. In fact, pressure began to build above the Dong because of price instability, rather than credit concerns. As inflation touched 25% in early 2008, the Central Bank was forced to allow the currency to depreciate, in order to correct the gap that had formed between government rates and black market rates. Since the onset of the credit crisis, the Dong has hardly budged, perhaps because the Vietnamese monetary situation has stabilized now that food and energy prices have subsided. In addition, the currency remains immune from sudden swings, since the government forbids investors to trade the currency for speculative purposes. Having already fallen 30% against the Dollar over the last decade, as part of a "managed devaluation" program, the Dong could be considered fairly valued. Moreover, the country is poised to continue growing at a steady clip due attractive (low) wage levels relative to its neighbor to the north, China.
  6. Brazilian Real: The Brazilian Real, as well other Brazilian securities, could previously count themselves among the principal beneficiaries of the credit expansion of the last few years. Hedge funds and other yield-hungry investors poured billions of dollars into the Brazilian economy, doubling the value of the Real in only three years. Since the onset of the credit crisis, the currency has given back half of these gains, as those same investors liquidate their investments and return the proceeds to the US. The Real has also been battered by regional economic concerns; some analysts are speculating that neighboring Argentina will default on its sovereign debt for the second time in a decade. Meanwhile, Brazilian businesses have been caught in the same trap as their Mexican counterparts, having complacently speculated in derivatives transactions under the assumption that the currency would rise further. The Central Bank is not sitting by idly, however, having recently injected $50 Billion from its foreign exchange reserves directly into forex markets. Unfortunately, steadfastly strong economic fundamentals and generous interest rates are no match for investor psychology.
  7. Israeli Shekel: While its small population makes it unlikely that Israel will ever be included in the same category as the BRIC (Brazil, Russia, India, China) powerhouses, it’s economy is nonetheless worthy of admiration. It boasts the most billionaires per capita, as well as a vibrant technology sector. A robust stock market and the repatriation of capital previously held abroad ignited a multi-year run up in the value of the Shekel, culminating with its official designation as a CLS currency. Unfortunately, the currency’s lofty valuation may have belied economic fundamentals, and a slowdown in exports left the whole economy off balance. When the global economy regains its footing, however, Israel and its Shekel are well-positioned to benefit. The venture capital sector remains strong, and could help foster a new generation of alternative energy and biotech success stories.
  8. Thai Bhat: Much like Vietnam, the credit crisis has left Thailand relatively unscathed. Unfortunately, this has more than been offset by political instability. Since the ousting of Thailand’s erstwhile Prime Minister, Thaksin Shiniwatra, the country has been embroiled in a nearly continuous state of protest and riots. The protests have culminated in the seizure of Bangkok International Airport, and the new Prime Minister seems to finally have take the hint to resign. Nonetheless, foreign investors remain concerned, and have begun to gradually pull capital from the country. Those who have opted to keep their capital in Thailand are hedging their bets by purchasing insurance against the risk of the country defaulting on its national debt. Regardless, Thailand remains one of the few economic bright spots in Southeast Asia, and economists are predicting healthy growth in 2008-2009.
  9. Russian Ruble: The Russian Ruble has been devastated by the credit crisis; it has lost 25% of its value in the last six months, and one analyst projects it will fall an additional 25% over the next year. As a result, the country’s Prime Minister has quietly stopped talking about turning the Ruble into a regional reserve currency. Compared to other currencies, the Ruble is especially vulnerable because it is being pummeled on two fronts: the flight from emerging markets and the decline in energy prices. As the price of oil falls back to multi-year lows, Russia may find itself in dire straits. It has already spent a significant portion of its foreign exchange reserves trying to slow the decline, and will have to deploy a potentially greater chunk in the near-term in order to further ease the Ruble’s decline. According to one commentator, "If the price of oil and the stock market continue to decline in tandem, the Central Bank will no doubt find it increasingly difficult to defend the currency, and a massive devaluation would inevitably follow. The Central Bank has already hiked rates; it is running out of options.
  10. South African Rand: Inflation and Risk-aversion- these two trends have combined to drive a dagger right through the heart of the South African Rand. Viewed by some as a proxy for the economic condition of all of sub-Saharan Africa, the Rand has taken a beating over the last year, falling to a seven-year low. Previously, the Rand had been one of the prime beneficiaries of the carry trade, as foreign investors took advantage of a booming stock market and 12% benchmark interest rate by pouring cash into South Africa. The fall in commodity prices and the subsequent spike in risk aversion has triggered capital flight. The current account deficit has surged to 7% of GDP, leading most analysts to predict that the Rand will decline further in the short-term.