Chinese RNB likely to appreciate against the dollar

Last Updated on Wednesday, 17 March 2010 07:06 Written by admin Wednesday, 10 March 2010 04:35

Rob Annabat from SeekingAlpha predicts a rise in the value of the Chinese Renminbi against the dollar. Why? His reasoning is that China is slowly allowing its currency to appreciate against the dollar from8.15 RMB to the dollar in July 2006 to 6.83 to the dollar in July 2008. Incidentally, China claim that they have a floating exchange rate but it it far more likely that they employ some sort of peg. The artificially low value of the Renminbi was to keep Chinese goods cheap and increase the sale of their goods overseas.

The following are from the article “Renminbi / Dollar: A Peg No More?” by Rob Annabat, published in Seeking Alpha on March 10th, 2010.

Although the policy makers in Beijing had been allowing the RMB to slowly appreciate for several years—it was 8.15 RMB to the dollar when I moved to China in July of 2006—the peg was an obvious protectionist move to help stem the flight of foreign buyers of Chinese goods when the Western economies began to edge towards recession. And Western policy makers, who are keen to restore demand within their home markets, have been crying foul ever since.

But perhaps my mornings will once again be graced with some variety and Ben Bernanke can gripe about something else. China’s Central Bank director recently acknowledged the peg as a temporary remedy for the first time since its implementation. Those who are familiar with the subtleties of Beijing’s political signaling will recognize this as potentially preparatory for a loosening of the currency control, which would most certainly lead to the RMB’s continued rise against the dollar, and help to improve the massive trade imbalance between the US and China. Why, you ask, am I so certain that the RMB should rise, as opposed to fall?

There are many arguments, but perhaps the most concise, and certainly the drollest, is the one made by the Economist’s Big Mac Index, which asserts that were all currencies valued properly, a McDonalds Big Mac—which is taken as a homogenous commodity sold in 120 countries—would cost the same in any currency. Noting that a Big Mac sold in the US today costs $3.57, the current price of a Big Mac in China—a mere RMB 12.5 ($1.83)—points to the RMB being undervalued by nearly 50%!

So absent a matching pay raise, it looks like my Happy Meals in China are going to become more pricy. But what more profound …

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The Big Mac Index in ETFs

Last Updated on Saturday, 13 February 2010 08:40 Written by admin Wednesday, 10 February 2010 09:14

The following article is from Seeking Alpha. In short, they are tracking ETFs that mirror currencies represented in the Big Mac Index. The theory is that if you buy currencies that are undervalued according to the Big Mac Index, and short currencies that are overvalued, you will make money when the value of the currencies converge which they tend to do. Of course, you can profit this way either using ETFs which track currencies or by buying and selling the currencies themselves on the foreign exchange market.

From Seeking Alpha …

Although the validity of the Big Mac index in determining the value of currencies in the real world is suspect, it is still an intriguing idea nonetheless. The Economist’s Big Mac Index is based on the theory of purchasing-power parity (PPP). Exchange rates should equalize the price of a basket of goods in different countries.

The index shows which countries’ currencies are under and overvalued. The most overvalued currency according to the index is the Norwegian Kroner, which is almost 100% above its PPP rate. The most undervalued currency according to the index is the Chinese Yuan, unvervalued by almost 50%.

We thought it would be interesting to take track the performace on the Big Mac Index by through currency ETFs (see here). Unfortunately, there are not ETFs for all of the currencies on this list, but we chose the following:

LONG undervalued BIG MAC currencies:

CNY: Market Vectors Chinese Renminbi USD ETNs

XRU: Currency Shares Russian Ruble Trust

SZR: WisdomTree Dreyfus South African Rand Fund

FXM: Rydex Mexican Peso Trust

SHORT overvalued BIG MAC currencies:

FXF: Rydex Swiss Franc Trust

EUO: ProShares UltraShort Euro (long this index)

FXA: Rydex Australian Dollar Trust

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