Is China’s Unexpected Lowering of the Yuan Something of Significance or Just Noise?

The Chinese unexpectedly lowered the exchange rate of the yuan, the first such devaluation since 1994. Officials state this is a one off event and a “one-time adjustment.” The newswires are filled with possible ramifications including a proverbial “race to the bottom via competitive devaluations” to stimulate trade and economic growth. Unfortunately only history will suggest if yesterday’s devaluation was something of significance or just noise.

Equity markets, originally led by energy and commodities, sold off considerably on the devaluation. Oil retraced a large part of their losses but then technology further sold off. The dollar rallied as did the Treasury. Oil is now at a six year low, falling over $17 barrel or 30% since June 30. This is one of the sharpest declines in history. Energy companies have also been crushed, declining anywhere between 25% and 60% since June 30.

Calling a bottom is impossible. Perhaps the only concrete statement to make is that the oil market/stocks are closer to bottom today than yesterday. Many thought last Friday was the proverbial “capitulation day.” A question that is now beginning to gain considerable attention is whether or not the indices are about to “roll over.” As noted many times, approximately 70% of NYSE listed stocks are below their 200 day moving average lines, with the typical stock posting almost a 23% decline according to CNBC. The Dow violated its 200 day moving average about 10 days ago and now the 50 day moving average has crossed over the 200 day. I am not technical analyst but trading has been dominated by technology and such an event is typically bearish.

Changing topics, in my view little attention has been focused upon declining productivity rates. Efficiency grew 0.3% in the 12 months ended June compared with 3% a year in average in the decade ended 2005. Productivity over the last three years grew at an average of 0.5%. Companies are not spending funds on equipment and infrastructure, forgoing investment of their profits for tomorrow’s growth. I can list a litany of plausible reasons for the lack of investment but ultimately such a decline will negatively impact profits and increase potential inflation rates. Several times I have opined about the possibility of a market and economic melt up as funds are suddenly shifted to a more productive use, including the broadening number of stocks participating in any market advances. Is this wishful thinking? Liquidity, excess bank reserves, etc. are at record levels idly sitting.

If history can serve as a guide, these funds will be utilized in a more efficient manner. But what will be the event? We can list 187 possible events and it will be the 188th that history will view as the catalyst.

Last night the foreign markets were down. London was down 1.15%, Paris down 2.25% and Frankfurt down 2.31%. Japan was down 1.58% and Hang Sang down 2.38%. The Dow should open sharply lower as Chinese shares tumbled in the wake of the devaluation that is suggesting that its growth rate is slowing more than expected. As stated many times, China is an export dominated country, an economic system that is inherently risky given that it is dependent upon others for its growth. The 10-year is up 7/32 to yiewld 2.11%.

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The views expressed herein are those of Kent Engelke and do not necessarily reflect those of Capitol Securities Management. The information contained herein has been compiled from sources believed to be reliable; however, there is no guarantee of its accuracy or completeness. Any opinions expressed are statements of judgment on this date and are subject to certain risks and uncertainties which could cause actual results to differ materially from those currently anticipated or projected. Any future dividends, interest, yields and event dates listed may be subject to change. An investor cannot invest in an index, and its returns are not indicative of the performance of any specific investment. Past performance is not indicative of future results. The material provided in Daily Market Commentaries or on this website should be used for informational purposes only and in no way should be relied upon for financial advice. Please be sure to consult your own financial advisor when making decisions regarding your financial management. Members of FINRA and SIPC, Capitol Securities Management is a privately owned full-service retail brokerage and investment advisory firm headquartered in Richmond, Virginia. For nearly 30 years, we have been serving the needs of our investors. Today, more than 200 Capitol Securities Management investment professionals and support staff serve approximately 18,000 customer accounts from Southern Florida to the New England coast.