Currency is the top news story this week led by China as they devalued the Yuan. The Yuan has historically been pegged against the US Dollar for a consistent exchange rate. China chose the Dollar for two reasons: to keep their currency lower than it would trade if it was free-floating and less volatile compared to other foreign currencies.
Due to the Dollar’s strength over the past year, the Yuan is now much more expensive. This has made China’s exports more expensive to their trading partners, particularly Asian and European countries. This is much of the reason why they decided to devalue the Yuan this week.
The Yuan fell to its lowest against the Dollar in almost three years following what the China’s central bank described as a “one-off depreciation”. Our feeling is that this is true for the short-term. We see higher valuations for the Dollar against world currencies coming in the future which will continue to make the Yuan more expensive, therefore we could see more “one-off depreciations” down the road.
This week’s devaluation also increased concerns about the health of the world’s second largest economy which brought about increased volatility in the equity markets. The early week losses where quickly erased once the initial negative reaction to the devaluation wore off. Equities actually closed higher on the week.
How will U.S. companies be affected by a Stronger Dollar?
The strong Dollar over the past year impacted U.S. companies with earnings from overseas in foreign currencies. As the U.S. dollar strengthens, foreign earnings are worth less when translated back into U.S. dollars. Some companies have weathered the storm better than others. Most multi-national companies have a currency risk and hedging program to counteract some adverse currency movements, but the quicker currencies more difficult it is to counteract.
Have a great weekend.
By Mike Harris & Meredith Rosen
