Many of you are aware of the bold economic move made by China early last week.
In an effort to increase growth, keep employment rates high, and compete in the global economy, China devalued its currency, the renminbi1 (人民币), or the “people’s money.”
Historically, the greatest comparative difference between the renminbi’s unit of currency, the yuan, and the U.S. dollar can be measured in hundredths of a percent, so volatility between the two currencies has rarely been an issue. However, last week, the yuan dropped 1.8% in value against the dollar and 2.2% against the Euro.
To help better understand the terms “renminbi” and “yuan,” let’s compare the Chinese to the British system. Britain’s currency is called the “sterling”, but when in England we purchase goods in “pounds”, which is their unit of currency. (For a more detailed explanation, check out the following link: http://m.nasdaq.com/article/so-what-is-the-difference-between-renminbi-and-yuan-anyway-cm140374) By the way, yuan translates to the word, “dollar”.
If your curiosity is piqued and you would like to know how to pronounce “renminbi” and “yuan,” see http://www.npr.org/sections/money/2010/03/wait_whats_the_difference_betw.html.
Now, many of you may be thinking, “So what?”
Well, if you like to spend, as my wife, Marea, does, you may begin to find some decent bargains. On the other hand, if you’re a saver, your portfolio may experience an increased level of volatility. Considering that mid-August is usually a fairly quiet time of the year (economically speaking), this decision could presumably have an impact on global markets and deserves attention.
So how will all this affect American consumers? There are some benefits: imports will be cheaper, as a stronger dollar means more value for less. Oil prices worldwide are denominated in dollars, so a stronger dollar would lower global demand and possibly drop gas prices as well2.
Of course, when I mentioned a potential decline in import prices, Marea immediately wanted to know when she would begin seeing prices drop at Nordstrom’s. She reminds me of an Olympic sprinter on the starting line – coiled and ready to go – charge card in hand like a baton to be sadly passed on to a retail associate.
Aside from lower prices at my wife’s favorite stores, there are some drawbacks to China’s actions that might outweigh any benefits. American exports will be more expensive by comparison, hurting overseas trade. This, in turn, could lead to lower corporate margins and potentially fewer jobs in the states. The devalued yuan has already contributed to increased market volatility and may impact prices stock prices through the end of the year.
While a few investment sectors have been unaffected by the news, corporations ranging from Apple to Yum Brands (KFC and Taco Bell’s parent company) to Burberry have all seen drops of more than 3% in their stock prices since the announcement. Yum Brands sustained one of the biggest hits with a 5% dip, as half of their sales come from China. Apple’s stock has already fallen 5.2%, while Vale, the world’s largest iron-ore producer dropped 5.1%. Luxury goods have also suffered, with BMW shares in Germany falling 4%, and LVMH 5.4%3.
Domestically, the Federal Reserve had been prepared to raise interest rates, but a higher priced dollar may decrease inflation and potentially motivate the Fed to postpone a rate hike, as they are already concerned with our current level of inflation.
Fortunately, there is shining light piercing through the darkness of these uncertain times – a gold one.
Gold has seen gains for four consecutive sessions since China’s decision, providing some glimmer of hope for investors4.
Ultimately, this is an ideal time to consult with your advisor to discuss strategies that can help safeguard your retirement portfolio. While there are no foolproof solutions that provide full protection against what may be a period of turbulent global markets, small adjustments can be made to help reduce volatility.
Will a drop in the value of the yuan definitely lead to a market correction? No.
Will the Fed postpone the expected rate hike? The Fed will analyze a wide range of data including growth in jobs, inflation, the GDP, China’s actions and much more. So, your guess is as good as any expert in the business.
Let’s refocus on meeting with an advisor. For example, as a defensive move, based on time horizon, risk tolerance and performance over the past couple of years, an advisor may recommend lowering overall risk by reducing equity exposure, adding a gold ETF and/or an annuity, and increasing the portfolio’s cash position.
Speaking of gold, Marea’s first post devaluation purchase may be a pair of gold earrings for our daughter, Taylor, who just had her ears pierced. A nine-year-old needs a decent selection of earrings to kick off the new school year, right? And obviously she can’t just get earrings!
And of course, a devalued yuan will probably increase the cost of gold.
I just can’t win!