Thai stocks plunge 15% -- Why you need diversification

December 27, 2006

Last week, the Bank of Thailand suddenly slapped a restriction on short-term foreign direct investments (FDI) in that country. As a result, the Stock Exchange of Thailand declined 15% that day, a value of $22 billion. In response, the Thai government rescinded the restriction on all but pure currency investments.

The restriction required investors to maintain 30% of their foreign currencies in a local bank, leaving them only 70% to invest. Any money withdrawn from Thailand in the first year would have been subject to a 10% withholding. This effectively destroyed any possible capital gains from investments in Thailand.

Usually when governments add restrictions of this sort, they signal investors enough to prevent the cataclysmic response Thailand experienced. Although the Thai stock market has essentially recovered, confidence in the interim government has been shaken.

What the Thai stock exchange plunge means:
Thailand has suffered from China’s reluctance to let their currency, the yuan, rise freely against the dollar. As a result, Thailand’s currency, the baht, has risen instead, encouraging foreign exchange speculation. As a result, the baht has risen 14% this year, which has made Thailand’s exports to the U.S. more expensive than Chinese exports.  Thailand’s sudden restriction was a panicky attempt to stop the speculation and increase exports.

Action steps:
The Thai stock exchange plunge is a good example of why it is good to have a diversified portfolio, and to rely on mutual funds. An individual investor who had bought stocks in the Thai market, seeing the 15% decline, might have sold in a panic...only to realize the next day that the markets had basically recovered. The end of the year is a good time to review your personal finances to make sure you are well-diversified.

Source: China People’s Daily Online, “ Thailand exempts stock investors from new capital reserve measure”, December 20, 2006; “Black Tuesday for Thai stock”, December 20, 2006.