Top 5 Forex Events of the Decade

Last updated 12/25/2009 8:23 AM ET (GMT -5) 13 Comments

Forex Trading involves high risks, with the potential for substantial losses and is not suitable for all persons. Past performance is not necessarily indicative of future results.

Kathy Lien

Director of Currency Research, GFT

In 2010 we are ringing in a New Year and a New Decade. Before we start thinking about what could come in the next year however, we want to take this opportunity to talk about the 5 most memorable forex events of the decade. The past 10 years has been a rollercoaster ride for everyone. The highs include the birth of social networking, the growing popularity of Google, the online video revolution led by YouTube and debut of Apple’s iPod and iPhone products. The lows include the financial crisis, 9/11 and natural disasters. These developments have affected each of our lives but only a few have had a lasting impact on the currency market. Here are the forex events that have made our top 5 list. We encourage all of our readers to add your own in the comments section and if they are interesting, we may even collect them for an updated report!

1. Euro: Lives Up to Expectations, Becomes a Global Currency

The euro was launched on January 1, 1999, but it did not come of age until the past decade. Initially eleven countries joined together to launch the common currency and now the membership into the Eurozone has expanded to 16 nations with more countries itching to join the club. A total of 23 countries that do not belong to the European Union have even pegged their currencies to the euro. When the currency was first launched, there was a lot of skepticism about whether a single European currency would last and whether the European Central Bank would be effective in balancing a monetary policy that would be suitable for all member nations. In fact, the skepticism was so intense that the EUR/USD plunged from its initial rate of 1.18 to a low of 0.8228 by October 26, 2000. Fast forward a decade to the present and we now know that the EUR/USD has stood the test of time and proved to be one of the most successful financial experiments of the decade. Not only is the EUR/USD trading well above the level that it launched at, but it has also become the world’s second most actively traded currency after the U.S. dollar. More importantly, the euro has become the second largest reserve currency which means that central banks around the world have recognized that the euro is here to stay. The euro is already beginning to challenge the U.S. dollar’s status as the world’s primary reserve currency and it is an understatement to say that over the past 10 years, the euro has come a long way because in that time, it has proven to be a smashing success.

Monthly Chart of EUR/USD

Source: GFT Dealbook

2. Carry Trade: Birth, Death and Rebirth

For anyone trading currencies more than a few months, you have most likely come across the term carry trade. For those of you that have not, in simple terms, a carry trade involves buying a currency with a high interest rate and funding that purchase by simultaneously selling a currency with a low interest rate. In the forex market, this is easily achieved since currencies are quoted and traded in pairs. The goal is to earn higher net interest income and hopefully capture some capital appreciation along the way. Carry trades were extremely popular throughout the past decade and particularly amongst retail investors. The reason is because it was a fairly straight forward trade that worked for nearly 5 years straight. Between the summer of 2002 and the summer of 2007, carry trades such as the Australian dollar / Japanese Yen currency pair appreciated more than 60 percent while the differential between Australian and Japanese 3 month LIBOR rates increased 16 percent. During this trade, anyone long AUD/JPY would have captured both the interest income and the capital appreciation. However the carry trade died a painful death in August 2008 when the financial crisis hit, causing currency pairs like AUD/JPY to give up 5 years worth of appreciation in as little 3 months. For 6 months after that, carry traders were afraid to come back into the markets but now that the financial markets have stabilized, we are beginning to see the rebirth of carry trades. As long as there is not another shock and central banks start to raise interest rates next year, the carry trade should continue to recover.

Source: GFT Dealbook

3. China Emerges as World Economic Power, Pulls the World Out of Recession

The rise of China has been one of the biggest economic stories of this decade. The Gross Domestic Product of China has increased more than 200 percent over the past 10 years from 9 trillion in 2000 to 30 trillion Yuan in 2008. Over this time, China’s average GDP growth has been greater 10 percent, helping the country become the world’s third largest economy by GDP. In just a few years, China is expected to overtake Japan as the world’s second largest economy. In that same time, China has also become the world’s largest holder of foreign exchange reserves which is why they are extremely important to the foreign exchange market. Although there are no clear statistics, it is estimated that more than half of their reserves are held in U.S. dollars and that they own close to 25 percent of all U.S. Treasuries held by foreigners. China has turned themselves into America’s largest creditor which means that they have tremendous economic leverage on the U.S. economy. One of the biggest threats to the dollar and the U.S. economy would be a massive sale of U.S. treasuries by the Chinese central bank. Imagine if someone came into the foreign exchange market and sold a billion dollars let alone any meaningful portion of China’s $798.9 billion investment in U.S. dollars. Even talk of this has hurt the dollar not only because of the foreign exchange impact that such a sale would have, but also because it would drive Treasury yields sharply higher. For this reason, the U.S. is affected by China just as much as China is affected by the U.S. – the two countries have become mutually dependent. On a brighter note, China’s decision to move to a floating exchange rate system that references a basket of currencies has increased their demand for currencies outside of the U.S. dollar. If China were ever to free float their currency, the impact on the foreign exchange could be even more dramatic as it would reduce their need for U.S. dollars and pave the way for the rise of the Chinese Yuan as a new reserve currency. More recently, China has proved their importance by effectively pulling the world out of recession. As a percentage of GDP the Chinese government’s massive stimulus package is the largest in the world and the results show that their stimulus package has helped to stabilize their economy as well as the Asia region as a whole. In fact many countries in and out of the Asia Pacific region have openly credited their recovery to the recovery in China. Over the next few years, we expect Chinese imports to become just as important more as Chinese exports, increasing China’s influence on the world. Chinese GDP

Source: World Bank

4. The Great Recession Triggers Record Breaking Moves

One of the most defining events of this past decade is fresh in the minds of many investors because the world is still recovering from the greatest economic crisis in modern history. The crash of 2008 sent the Dow tumbling 40 percent between October 2008 and March 2009. Who can forget the day in September 2008 when the Dow closed down nearly 778 points, the largest single day decline ever? The subprime / banking / global economic crisis wiped out IRA and retirement funds, triggered massive layoffs in the U.S. and abroad, pushed many countries into recession, forced central banks to slash interest rates to record lows and governments around the world to open their pocketbooks and spend their way out of recession. Unlike previous recessions the severity of the latest recession has caused the demise of decade old institutions and families who have built their wealth over many decades. The global financial crisis also triggered a massive wave of deleveraging that pushed investors into the safety of the U.S. dollar and Japanese Yen. Between October and March, the dollar appreciated more than 10 percent and if we include the appreciation in the second quarter, the dollar strengthened more than 23 percent. High yielding currencies of countries that are particularly sensitive to export demand plummeted in the process. However thanks to the trillions of dollars those countries have spent on stimulating their economies, the worst is behind us. The global financial markets have stabilized and many countries have started to grow again. Yet the consequence of the being white knights is long-run fiscal sustainability. Countries like Greece have already come under the chopping block. Even though the U.S. and the U.K. are not vulnerable to a credit downgrade, there is a lot of fear that the rest of world may be unwilling to finance the burgeoning deficits.

Dow Jones Industrial Average 2007-Present

Source: Bloomberg

5. Forex Trading Explodes

What has affected currency traders the most over this past decade is the birth of retail forex trading. Ten years ago, forex trading was limited primarily to banks, institutional investors, hedge funds, governments and wealthy individuals. However the popularity of the internet has dramatically changed how retail investors access the foreign exchange market. According to the Bank of International Settlement’s Triennial forex report, trading volume in the foreign exchange market has doubled in the past 10 years. As of 2007, daily turnover exceeded US$3.2 trillion and the latest poll from Euromoney suggests that volumes increased another 41 percent between 2007 and 2008. Retail foreign exchange traders have played a big role in the higher trading volumes and the growing popularity of the industry. As a result of increasing demand, transaction costs such as spreads have decreased, technology offerings have improved and value added services have exploded.

Source: Bank of International Settlements

As we look ahead to the New Year, we want to recognize the contribution that has technology has made to economic growth over the past decade and we hope that another new industry will arise, helping to transform the world and fuel growth for decades to come.

Comments (13)

Zack Choe

December 26, 2009 at 10:16 AM ET

Cheers Kathy, love your work. Merry Christmas and Happy New Year !

Yaakub

December 26, 2009 at 09:13 PM ET

Why the USD/CHF fall so drastically on 14 December 2008? Sorry, I just need to know.

FXDragon

December 26, 2009 at 05:06 PM ET

So did mutual funds lose a lot of money? Do they invest in stocks? And dont they sell during bear markets? Are they just long? How could they gamble retired peoples money on stocks? Mybe they buy mainly treasuries, less risk. Could Americans answer please about this? I need information, im a non us.

schultzz.at

December 28, 2009 at 03:30 AM ET

Good question. These institutions, pension funds, endowments, etc, which are supposed to manage the money for retirees, universities, etc, are indeed heavily invested in stocks. The CalPERS homepage shows a 65% stock allocation for its $200 billion fund. But even worse, many institutions are invested in illiquid assets and some have underwritten interest rate swaps.
Many funds are indeed 'actively' managed. They sell stocks or protect their portfolio via options in bear markets. Or they shift from 'cyclical' into 'defensive' stocks. Needless to say that they have to pay for this 'activity' via transaction costs and option premiums. It would be far better if the fund managers went 100% in Treasuries and retired.
But even after a decade of losses for stock investors, many people still have faith in the stock market. This positive sentiment is a contrary indicator and tells us that we have not seen the bottom in stocks yet.

Marc

January 01, 2010 at 03:00 AM ET

I have rev 1 and rev 2 of your book. Will you share with us in your next book your razor sharp skills of predicting economic releases?

aea

December 25, 2009 at 09:19 PM ET

thanks for your very nice summary and analysis, this year i have learned a lot of thing by your commentary
i wish the next year will be a great year for you. Best wishes

newhome

December 25, 2009 at 01:15 PM ET

Very nice summary and analysis. Thank you Kathy.
Merry Christmas.

Thai Vu

December 25, 2009 at 08:38 AM ET

Merry Christmas Lien, I love you

FX4Sure

December 25, 2009 at 01:42 PM ET

Amazing topic, you made me ´thirsty´ about Chinese influence in the Forex Market and Libor spreads, I have a lot to learn...
What about rise on the prices of gold, did it have some impact?

FX4Sure

December 25, 2009 at 01:42 PM ET

by the way, Merry Christmas!

trader

December 26, 2009 at 12:17 AM ET

merry christmas, I still have got to learn and understand to strategize the market keep on moving. Will want to make it a better decade; so Happy new decade and new years of 2010. Cheers.

Yohay

December 27, 2009 at 12:57 PM ET

Very interesting article. I'll post a followup on my site, www.forexcrunch.com
Just one note about the Euro: the currency came into circulation only in January 2002. This is about the timing in which it began the rise.

sam1984

December 27, 2009 at 03:14 PM ET

i loved it. i loved it so much . and i love you too kathy.thank you for this nice topic.
merry christmas

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About The Author

Kathy Lien began her FX trading career 10 years ago at J.P. Morgan Chase. After graduating New York University’s Leonard Stern School of Business at the age of 18, Kathy joined the bank's interbank FX trading desk and eventually moved to the cross markets proprietary trading desk. In the interbank market, her ability to create solid fundamental and technical analysis from the myriad of information on the market helped her trade forex spot and options. Her experience eventually led her to be chief strategist at Daily FX where she worked until she joined GFT in 2008.

With her knowledge of forex, as well as her experience trading other products, such as interest rate derivates, bonds, equities, and futures, Lien has built a reputation as an international currency analyst. She is frequently quoted on CNBC, Bloomberg, Fox Business and Reuters. Lien has also written for publications like Active Trader, Futures, and SFO magazine. She is the author of the newly updated Day Trading the Currency Market: Technical and Fundamental Strategies to Profit from Market Moves, and the co-author of Millionaire Traders: How Everyday People Are Beating Wall Street at Its Own Game with Boris Schlossberg.

To buy Kathy’s newly updated Day Trading and Swing Trading the Currency Market: Technical and Fundamental Strategies to Profit from Market Moves, click here.