Chinese Currency Undervalued
It seems that there will be a gradual and continual revaluation of the RMB by Chinese authorities. What do you think?
Although it is in the overall interests of the United States for China to keep her currency at a low level, China will more than likely continue to revalue the RMB, at a level that makes it more expensive in relation to the dollar.
Pushing China
China is being pushed on from all sides to revalue her currency, since there is a tendency for the entire developed world to think that huge amounts of manufacturing jobs are fleeing to the far side of the world and being swallowed up by an ever growing Chinese monstrosity.
Wherever the roots of this fear and misunderstanding lie, it is hard to prove that China itself, instead of the entire developing world, is destroying these jobs. They are being destroyed by a process of creative destruction, an economic term that holds that old jobs industries are replaced by new ones, and that these jobs are usually gone for good. That is what is happening in this new world order, in which China and many other low wage countries are literally wiping out many manufacturing industries in developed countries.
Lost US jobs would flow to other developing countries
The belief that revaluing the Yuan will cause jobs to flow back to these developed countries is stubbornly held, even though the evidence points to these jobs going to countries with an even stronger post Yuan revaluation currency advantage than China, such as Vietnam or Indonesia, if China is forced to revalue significantly.
China strongly opposes any direct pressure to revalue the Yuan, only once bowing to the United States in revaluing several percentage points and replacing the at-that-time current fixed rate currency exchange regime with one that is tied to many other currencies (more than likely mainly including the Dollar, Yen, and Euro). After imposing this currency basket exchange regime, China has let the Yuan gradually rise in value against the dollar.
It is almost certain that China will continue to let the Yuan rise in value over time, given the overall opinion of most experts of how low China artificially keeps her currency, and how much it would likely rise on the open market. Although it is unlikely China will let the Yuan trade freely any time soon, it is likely that they will make continual steps in that direction, following a policy of economic liberalization that has defined China over the last 20 years. Why will they do so?
A rising yuan equals lower inflation in China
Letting the Yuan rise in value against the dollar does have a distinct advantage for China and Chinese authorities. The more that China lets her currency appreciate, the lower the overall rate of inflation will be for China. However, any significant revaluation will also have a highly negative impact on Chinese exports, which would put a damper on economic growth.
Implications for China investors
What implication does all of this have for investors? In the current currencies market, there are only two currencies that are distinctly inexpensive, that is, ones that have decreased in value (relative to other major currencies) over the last several years. The first is the dollar. Although not at an all time low, the dollar is certainly low in comparison to a very strong Euro and relatively strong Yen.
Holding cash equivalents to the Yuan
Even cheaper than the dollar, however, is the Chinese RMB or Yuan, which is essentially still tied to the dollar. Most experts would acknowledge that the Yuan is still held at an artificially low level, and that it will almost certainly gradually (or more quickly) appreciate over time.
This means that if you can, holding cash or cash-equivalent investments in RMB or the Hong Kong Dollar (a better choice than RMB, since it is more easily convertible and yet tied directly to the RMB), that you are likely to see a gradual increase of exchange rates in your favor.
China stocks not cheap
What about other securities? It my opinion that most foreign stock market values are currently at very expensive levels, and although they may become even more expensive in the short run, there is a large likelihood of a significant pullback in the next year or two. Hence, for the moment (when this column was written), try to stay away from foreign stocks for the most part. If you have had significant gains in this area, now is the time to pare down your holdings, at the very least to the original percentage of your portfolio foreign stocks held before the current run up.
Exchange traded funds (ETFs) for China and Hong Kong stock markets
The iShares Index Fund stock that tracks Hong Kong, ticker symbol EWH, and FXI, another Index Fund stock that tracks 25 large mainland Chinese companies, are both good ways to get direct exposure to the Chinese and Hong Kong stock markets. However, I would recommend waiting for a significant drop in valuation (think around 50%) before jumping in to these index funds. Otherwise, you may find yourself buying in at the top of the market and watching the value of your investment plummet within just a year or two.
However, if there is a significant correction, you will have a margin of safety on two different ends by buying these index funds. You are almost certain (barring unforeseen unstablizing political events more than anything) to see a gradual rise in value of the underlying currency of these markets, and you will be buying in at a relatively inexpensive level. And if pessimism wins the day and continues to drive these markets lower, you can always buy more after another year and sit and wait. Why do I say this?
Bulls always (eventually) rush back into emerging markets
The bulls will certainly come rushing back in to developing markets, like they always do, it is just a question of time. Beyond this, most believe that sustained development of the Chinese economy, increasing financial transparency, the continuing privatization of Chinese state-owned enterprises, and an ever more economically liberal country will at some point bring Chinese stocks to highs we probably can not imagine at the moment. But, like Keynes said, in the long run we are all dead.
Or we kill ourselves not waiting for the right time.
Can I add that the revaluation also ignores that the billions of usd the Chinese CB has will also be significantly reduced in value, also there would be a lot less interest in buying US bonds thus causing their prices to decline, slowing improvement in their economy.