The curious situation of the baht that refuses to bark

From the dog that did not bark to the currency that does not move – we have recently seen an exceptional stability in the baht’s exchange rate to the US dollar. 

For the last two months, the baht exchange rate has been stuck in a very tight range from 30.60 to 30.80. This sustained lack of movement has few precedents over the last 10 years. In the last two months before this, the exchange rate moved between 30.60 and 31.70. 

This situation also has limited parallels with regional currencies. Over the last 50 business days, historical volatility of the baht exchange rate (an annualised measure of the deviation of daily movements from the average) is at 2.4 per cent. In contrast, the Singaporean dollar is at 2.9 per cent, the Indonesian rupiah is 3.1 per cent, the Philippines peso is 3.7 per cent, and the Malaysian ringgit is at 4.5 per cent. 

The baht’s new-found stability reflects several key underlying factors in financial markets. 

First, the global environment has been quiet since the Federal Reserve’s announcement of QE3 (its latest new monetary easing programme) in mid-September. 

There has been news on issues such as the Greece bail-out or the United States fiscal cliff negotiations, which are impacting sentiment on a day-to-day basis. However, there have been no really major developments on these fronts, leading to a lack of big new drivers for investors. The period immediately after the QE3 announcement saw large foreign portfolio inflows to emerging markets, but since then the flows have declined and the investor mood has become more subdued. 

Second, Thailand’s exports have been facing challenging times. There is a manufacturing slowdown in Asia, amid less demand from Europe and China. This means that inflows from net exports into the current account have slowed, making it less of a driver for the exchange rate. 

This situation has several implications. 

The reduced volatility in the currency has impacted option prices. These are measures of implied volatility – the expected future volatility of a currency. Baht option prices have been declining over the last two months. The one-month implied volatility of the baht is at around 4 per cent, compared to 4.4-4.5 per cent for most other regional currencies. 

Another issue is that the factors driving this exchange rate stability are not sustainable. Global sentiment may remain quiet until the year’s end, but there is likely to be more concrete developments going forward, whether from the US fiscal cliff or the recovery in major economies. Thai exports should also begin to strengthen going forward – there are already some signs that the regional manufacturing cycle is stabilising and is on the way to improving. 

These factors are likely to lead to greater baht volatility in the new year, with trading dominated by shifts in global investor sentiment. 

 

Parson Singha is Chief Markets Strategist, Global Markets, HSBC Thailand.