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China drops dollar peg; Yuan to fluctuate against a basket of currencies

" (MarketWatch) " Steve Goldstein, July 21, 2005

The Chinese government on Thursday announced its long-awaited reform of its currency, saying it's dropping its yuan-dollar peg in favor of one vs. a basket of currencies.

"The People's Bank of China will make adjustment of the renminbi exchange rate band when necessary according to market development as well as the economic and financial situation.

The renminbi exchange rate will be more flexible based on market condition with reference to a basket of currencies," it said.

China said it's adjusting the exchange rate to 8.11 yuan per dollar; overnight, it traded at 8.2765 yuan per dollar.

The move gave a boost to Asian currencies, with the Japanese yen soaring 1.9% against the dollar.

One dollar was last worth 110.66 yen.

The daily trading price of the dollar vs. the yuan will continue to be allowed to float within a band of 0.3%, while the trading prices of non-U.S. dollar currencies will be allowed to move in yet-to-be announced bands, it said in a statement released on its Web site.

The Bush administration and the U.S. Congress have long complained that an artificially low yuan has boosted Chinese exports."

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The USD is trading down; gold is up. Equity futures, which had been ultra strong, are now mildly strong, as traders will take a while to figure which way the tide is flowing.

With the extreme market trading in the past couple days, I figured something was up. Changes of the magnitude of the China renminbi revaluation are known by too many people to keep the event secret. There is always a reaction in the market before the news becomes public.

But that speaks to the integrity of capital markets.

Now traders have to figure out how this move will, or might, affect them.

Like the title of the movie..."Hope Floats".

Unfortunately, I think that U.S. Treasuries won't.

If you recall, I have stated all along that the People's Bank of China would revalue in the 3Q05, against a basket of currencies. This move today is just the first small step in that direction, apparently just an adjustment of 2.1 pct against the USD.

There will be a few more steps in the next year or two, I believe, as China completes its currency revaluation plan.

I also said that this event would trigger problems in the U.S. fixed income markets, which would eventually (sooner now than later) cause problems for the U.S. real estate market, and then the equity market.

I continue to believe that there is a 50:50 probability of a bear market starting now. And now I think the market has a legitimate driver.

It will be interesting to see how the Wall Street Bulls play this one. If you know where I am coming from, you will understand that my view is they will do whatever is necessary to protect their -- not your -- interests.

I have been writing this week: protect yourself. Wall Street will not do it for you.