Investors may look back at the liquidity crisis o 2008 as the inection point that afrmed China as a global economic superpower. During this time, the majority o emerging market currencies suered as investors ed higher-risk currencies. However, the Chinese yuan largely tracked the sae haven ight to the U.S. dollar, and investments providing exposure to movement in the yuan generated a positive return and exhibited low volatility during the most volatile market environment in recent history.

Strictly regulated by Chinese authorities, the Chinese yuan is managed to trade in a tight range relative to a basket o currencies, including the U.S. dollar. Because the Chinese government has emphasized stability in the currency, changes in the yuan’s value relative to the dollar have tended to be implemented in a slow and deliberate ashion. Since the currency was allowed to oat rom its peg to the dollar in 2005, the pace o appreciation relative to the dollar had been relatively consistent until last summer, when a closer relationship to the dollar emerged.

+ Long-term growth potential relative to the developed-market countries, particularly the U.S.
+ Increasing role as a global economic leader
+ Attempts to diversiy away rom the dollar
+ Relative undervaluation given China’s economic development

Sources: JPMorgan, Bloomberg
You cannot invest directly in an index.
Past perormance does not guarantee uture results.

The JPMorgan Emerging Local Markets Index Plus (ELMI+) China subindex uses a weighted basket o 1-, 2- and 3-month currency orwards collateralized with U.S. money market rates to proxy the total returns o local-currency money market instruments in China. A orward contract is an agreement by two parties to transact in currencies at a specifc rate on a uture date. The S&P 500 Index is a cap-weighted index o 500 stocks, designed to proxy the perormance o leading industries in the U.S.

dependency on the U.S. dollar. Regionally, China is playing an increasing role in the Pacifc Rim, acilitating agreements with Korea and Japan to provide oreign exchange liquidity to Korea during the crisis. With international reserves exceeding $2 trillion, China will likely play a role in any major global capital market or economic development.

trades in yuan and has since pursued similar arrangements with Brazil, Russia and Korea. Trade settlement will acilitate cross- border transactions and increase pressure to liberalize the currency. Additionally, the government is looking to issue its frst yuan-denominated government bond to Hong Kong investors. China’s enormous consumption o commodities increases its sensitivity to the value o the U.S. dollar, since commodities are typically priced in dollars. The currency weakness o commodity-producing nations during the crisis created opportunities or China to make direct investments into commodity producers and secure long-term sources o supply outside the U.S. dollar.

demand-driven economy, we believe sensitivity to yuan appreciation will eventually subside and actually become a positive as the country imports more goods. Additionally, the younger generations in China consume at a much higher rate than the older generations, or many o their peers across Asia, suggesting that a sizable drop in the current savings rate could occur in uture years.

at a discount to their long-term purchasing power, given uncertainties related to investing or conducting business in an emerging nation. However, as China becomes more ully integrated into the global economy, this discount could begin to dissipate and the value o its currency could eventually converge with its long-term purchasing power. This is even more likely given the widely held view that the appreciation o China’s currency has been restrained in order to oster its exports. According to recent estimates o purchasing-power parity rom the World Bank, the Chinese yuan would need to rise 76% to achieve parity levels.

The purchasing-power-parity rate (PPP) between two countries is the rate at which the currency o one country needs to be converted into that o a second country to ensure that a given amount o the frst country’s currency will purchase the same volume o goods and services in the second country as it does in the frst. In the WEO online database, it is expressed as local currency per U.S. dollar. The discount or premium to PPP is the ratio o the current spot (expressed in dollars per oreign unit o currency) relative to PPP (expressed in dollars per unit o oreign currency).

Political unrest and the ailure o monetary authorities to prudently remove excess liquidity pose the principal risks to the underlying value o the Chinese yuan. A signifcant decline in asset values rom current levels could also expose a bad-debt problem created by the recent surge in lending. We believe the current level o the yuan relative to its long-term potential provides downside risk protection, and the sizable reserve base oers the government sufcient ammunition to deend the currency i needed.