2008: Year of the Global Recession

by: Richard Lee

The last year has been a year for the record books. With the US credit crisis dominating headlines for nearly 24 months straight, a global slowdown has caused a whole slew of smaller disasters from crumbling currencies to governmental bailouts. As we end the year chock full of pessimistic memories, investors can only hope that 2009 will be a deserved rest from a tumultuous 2008.

1. Iceland Economic Failure

Iceland Economic FailureA model example for historians and economists for years to come, the economy of Iceland fell into economic depression as a result of financial sector failure. As a result, the local currency, the krona, collapsed by almost 40 percent as traders sold the currency against the euro over the span of a few days. The instability led UK Prime Minister Gordon Brown in threatening legal action against the country’s banks as their actions were deemed “totally unacceptable and illegal”.

Economic failure of Iceland left the world stunned. How did Iceland fail?:

  • BusinessWeek starts by blaming the banks and mounting international debt.
  • One economist blames poor economic policies and bad inflation targets was a start.
  • Wall Street Journal sees Iceland as having taken too much risk for such a small nation.
  • NY Times tries to figure out how a country like Iceland can go bankrupt.

2. Citigroup (NYSE:C) Shares Pummeled

Failing CitigroupIn 2008, financial shares were completely beaten down by the market as risk remained too high to hold these stocks. One unlucky firm was Citigroup; the bank lost almost 80 percent of its price in a matter of weeks. With no short term recovery in site, the government had no choice but to step in and save the failing bank to the tune of a $306 billion guarantee.

What do people think of the Citi bailout?

3. Crumbling Ruble

A flight to safety helped the US dollar gain against the Russian ruble, bringing the currency down to approximately 11 percent from its summer high. With all the hoopla surrounding risky assets, investors sought safe haven greenbacks as the revisit of the 1998 devaluation loomed heavy.

Follow the fallout:

  • November: Russia’s inability to stop a freefall is becoming more apparent.
  • December: Ruble is at a record low against the Euro.
  • January: Russia’s neighbors are under pressure from the devaluation of the ruble.

4. Global Interest Rate Cut Global Financial Crisis

On October 8th, in a move to stem the global contagion of the US credit crisis, central banks in multiple G-10 countries coordinated efforts to lower interest rates. Among them were notable economies including the US, Europe, UK, Canada and Switzerland. Unfortunately, the FX markets only found temporary support before moving lower again.

International rate cuts:

5. Sinking South Korean Won Sinking Won

The South Korean Won became one of the worst performing currencies for the year as traders sided with the safe haven character of the US greenback. However, making things worse were local exporters. Businesses worried about higher costs of a lower currency hoarded the US dollar while simultaneously kicking the won to the curb.

Timeline of the South Korean Won Performance:

  • May: South Korean Won falls to a two year low in its worst performing day in nearly ten years.
  • October: South Korean Won at the lowest level in a decade.
  • November: Investors continue to dump South Korean Won.
  • January: South Korean Won down 3%.

6. January Surprise - Fed Cuts Rates On Jan 21st.

On January 21st, the Fed surprised markets by cutting interest rates by 75 basis points in order to stem further volatility and loss. The decision followed a tumultuous session in the global markets as major indices around the world experienced an average decline of 7.2 percent.

Speculation on what January 21, 2008 interest rate cut means for the US economy:

  • Fortune magazine wonders if the cure is worse than the disease. They may have been right.
  • Business reporters consider how this is going to effect the economy long term.

7. Global Market Downturn

When it was all said and done, global stock market losses were in double digits as traders unloaded risky assets en masse. Major stock indices continued to flash red as the Dow Jones Industrial Average, S&P 500, Xetra Dax, FTSE 100 and Nikkei were now an average 41 percent lower than the beginning of the year. The same could be said of the carry trade crosses. Once a highly touted investment, the GBPJPY currency pair was now sitting below 135.00 compared to aspirations of 250.00 just months ago.

How did global stock markets fare in 2008?

8. Lehman Failure

Fall of Lehman BrothersThe biggest failure of an investment bank since the days of Drexel Burnham Lambert, the bankruptcy of Lehman Brothers spelled disaster for the US financial sector as it showed no bank or firm was resilient to market and financial forces. The ultimate result showed one of the world’s most revered financial institutions being split apart as the stock price plunged to mere cents on the dollar.

How could Lehman go bankrupt?:

9. Bear Stearns BailoutBear Stearns

One of the first big headlines to hit the ticker in the beginning of the year, Bear Stearns was being bailed out by the Federal Reserve Bank of New York and competitor JP Morgan Chase (NYSE:JPM). The resolution came after the investment bank reported two of its hedge funds sustained heavy losses in mortgage investments. The event helped to spark fears of further potential bank failures and stock market losses.

Recounting what now seems like the beginning of the end:

10. Borrowing Costs Soar

With credit or default risk fears running rampant, bankers upped the ante on making loans to the general public. This helped to push the benchmark overnight Libor rate to a record 6.88 percent back in October as 3-month dollar Libor increased to above 5 percent. The increase in Libor increased both mortgage and personal loans, making money relatively inaccessible and expensive.

Interest Rates are low, but borrowing costs are extremely high:

11. China’s Surprise Fixing

Chinese YuanExperiencing one of the most significant slowdowns in almost a decade, the Chinese economy showed for the first time a break in its rapid and solid pace of growth. As a result, government officials decided to take the currency back a notch, setting the fixing higher than most anticipated. Averaging approximately 6.43 per dollar, the rate was fixed higher at 6.87 in December. The move was seen as opposing previous free floating promises and prompted a visit from the US Treasury Secretary.

Is fixing the exchange rate the answer?

  • Understanding what’s behind a fixed exchange rate, benefits and potential problems.
  • US Treasury Secretary nominee, Geithner, accuses China of manipulating exchange rates and vows to take a stronger stance.

12. Fed Cuts Rates to 0.25 Range

Although anticipated, the Federal Reserve rate cut on December 16th was historic in the sense that central bankers decided to return the benchmark rate to levels not seen since the 1940s. Now, the question remains on whether further reductions will be needed in supporting the economy with borrowing costs nearing zero percent.

The plight of the 2008 interest rate cuts

13. International Swap Lines

In order to help smaller foreign countries, trader partners and the global economy, major industrial countries began extending lifelines. Specifically, the US opened up currency swap lines to help in the supply for the highly demanded dollar to countries in South America and Asia.

Several countries agree on global redistribution of US Dollars

14. Commodity Market Fallout

Falling oil prices Falling from grace, commodity markets were additionally sold off as traders and investors converted positions to cash. Particularly, crude oil contracts plunged from their heavenly perch atop the $147 a barrel price to just below a four year low. The ripples could be felt in correlated currencies such as the Canadian and Australian dollars, both noted for their commodity links.

Tracking the fall of commodity prices

15. US Treasury Yields Turn Negative

For the first time in a long time, investors hoarded US Treasuries as the return on equity investments were no match for the risk involved. As a result, sellers became buyers in the bond market, forcing short term bills to actually turn a negative yield. This didn’t deter the smallest investor as the safety of the investment became the biggest concern.

Understanding the effects of an inverted yield curve

16. Volatility Reaches Record Levels

With plenty of action in the markets, volatility picked up during the year as frantic bottom fishers battled with cherry pickers. As a result, the Volatility Index, or VIX, reached levels not seen in some time and reflected plenty of energy and panic in the herd. This made for an interesting trading environment as currency traders now had to deal with wider daily ranges in usually tame pairs like the EUR/USD and the USD/JPY.

Understanding unpredictable financial markets in 2008

17. Bernard Madoff: Tip Of The Iceberg

Bernard MadoffOne of the biggest stories to hit 2008, former fund manager and financial market icon Bernard Madoff was arrested on orchestrating the largest Ponzi scheme ever, potentially scoring $50 billion. The incident not only crippled Wall Street’s credibility but also showed potential leaks and inefficiencies in US regulation. Even more disturbing has been continued news of more hedge fund managers being arrested under the same claims as Madoff as clients continue to clamor for their money back.