This time is different, but this too shall pass

“This time is different” is a common phrase I have heard over the course of my career each time  a financial crisis happens; I have gone through 4 major crises including the current one. But are they really different and what lessons can we learn from them? Let’s make a trip back to history.

The 1997 Asian Financial Crisis (AFC)

While the AFC affected East Asia and Southeast Asia (SEA) in 1997, Indonesia, Malaysia, Philippines, South Korea and Thailand were the most affected. Between 1990 and 1995, these countries’ GDP grew at rates as high as 9 per cent p.a. and were expected to continue. With the relatively lower interest rate environment in the US then, the financial world wanted a piece of the economic miracle in this region and money flooded into them. I still remember vividly that many fund houses launched their versions of the SEA funds and investors were hungry to invest in them. These factors caused the stock markets and real estate prices in the countries (including Singapore) to surge. But when the US increased interest rates in 1994, the USD strengthened and Asian countries which had their currencies pegged to the USD became less attractive relative to other major currencies. To make matters worse, China devalued the yuan by 30 per cent. These factors caused a slowdown in exports in SEA and Korea.

Back in 1993, wanting to be a financial centre, Thailand eased regulations and gave tax incentives. It then became a place where one can easily borrow foreign currencies to invest in local projects (based in baht). But as the economy weakened due to slowing exports, investors defaulted on their payments and banks ran out of money. The central bank of Thailand had to lend its international reserves to the financial institutions and its reserves were depleted. Simply put, a country needs to have enough reserves to maintain a currency peg and so on 2 Jul 1997, Thailand unpegged from the USD and the baht devalued. Banks became technically bankrupt as their liabilities were in USD but their assets were in baht. This contagion effect spread to the rest of the region and stock markets collapsed.

With the poor economic situation as well as banks lacking the funds to lend, businesses went bust and unemployment rose. Even though Singapore was not so badly affected, we went through a mild recession and retrenchments, and unemployment rate rose. Singapore’s situation was made worse as investors not only lost money in the stock markets but also in the property market due to government measures in May 1996 to cool the property market. Speculators even had to top up their loans as the value of their properties fell below their loan amount. By the end of 1999, Asia had recovered from the crisis.

The Tech Bubble in 2000

The advent of the World Wide Web in 1989 gave birth to many internet and tech-based businesses between 1995 and 2000. These startups needed capital to grow and the low interest rate environment between 1998-1999 facilitated venture capital investments. Even though they were not profitable and burnt huge amounts of cash, investors believed in their growth stories and bought into anything that had an internet prefix or a .com suffix. At the height of the boom, it was possible for a promising dot-com company to become a public company via an IPO and raise a substantial amount of money even if it had neither a profit nor material revenue.  This caused the NASDAQ to rise 400 per cent between 1995 and 2000. In Singapore, as the bubble was about to burst in March 2000, fund houses rushed to launch tech funds.

After the US Federal Reserve raised interest rates several times between 1999 and 2000, capital to fund these growth start-ups dried up and investors realised that these businesses were overpriced especially with no earnings in sight. The bubble burst and NASDAQ fell 78 per cent from its peak by October 2002. This caused a mild recession in the US, but it affected investors globally. The NASDAQ did not recover lost ground until 2015.

The Global Financial Crisis of 2008

The Global Financial Crisis (GFC) was a banking-led crisis. Low standard lending policies and lax capital requirements by SEC allowed commercial banks to lend to both standard and subprime borrowers which caused housing prices to soar. These banks then securitized the subprime mortgages and sold it to investment banks (such as Lehman Brothers) who then repackaged them into complex and opaque structures called mortgage-backed securities (MBS). These were deemed investment grade by rating agencies and sold to investors.  As it turned out, retail investors who bought into these investment notes were the unwitting providers of insurance to counterparties, and received  premiums that were marketed as low-risk income.

Eventually house prices peaked, demand for houses dropped and prices fell. To make matter worse, the Fed raised interest rates from 2004. Borrowers could not pay and defaulted on their loans. The scale of the defaults bankrupted some investment banks; MBS became worthless and institutions who sold CDS could not pay as well. Retail investment notes were liquidated. The financial system collapsed and caused a global recession. I remembered the fear in the market back then as investors of CDS-based notes lost their hard-earned savings and panicked as the stock markets crashed and one financial institution after another announced their fall. The situation was made worse when companies started retrenching their staff and unemployment rose.

History has shown while the causes of the 3 crises varied, the common culprits were lax regulations and greed among investors and financial institutions which chased returns and profits blindly. What was also similar was that no matter how bad a crisis, we always recovered from it. But whether your investments recover and generate returns in the long run will depend on what you invested in and whether you are able to stay invested through the crisis.

After managing clients’ money through the 3 crises, I have learnt that it is better to get sufficient returns from instruments with strong evidence of a high certainty of success than to pursue maximum returns from investments based on trendy themes which we don’t even understand. In addition, always be prudent in your short-term financial planning so that you can weather the storms to reap the long-term investment returns when the crisis passes.  All crises shall pass, including the current one.

The writer is CEO of Providend Ltd, Singapore’s first and probably sole fee-only comprehensive wealth advisory firm. He can be contacted at chris_tan@providend.com