By Tom Bradley

The big news event this week was China’s currency devaluation. On Tuesday, the daily fix on the Yuan was set 2% lower. For me, there’s one big takeaway from this announcement. The government’s decision to devalue confirms that China’s economy is struggling and not growing anywhere near the official GDP number of 7%.

This is something the capital markets, including the commodity markets, already knew (or strongly suspected), but this action took away any doubt. The following excerpt from this month’s strategy piece from Connor, Clark & Lunn Investment Management, the manager of our Income Fund, outlines what I mean by “already knew”.

“… year-to-date economic releases point to Beijing being right on track to hit its target of 7% real GDP growth. However, this flies in the face of most of the data coming out of the country. The component parts that make up economic activity point to sluggish industrial production (Markit’s PMI dropping below 48), soft employment numbers (no change year-over-year), falling house prices (-3% year-over-year), weakening auto sales (-2% year-over-year), declining industrial profits (-9% year-over-year), a slowdown in capital spending (weakest in a decade), record high inventories (up 39% year-over-year), slumping business confidence (lowest in 15 years), falling imports (down 15% year-over-year) and weak export growth (up only 3.4% year-over-year). Also, Premier Li’s Index (a crude leading indicator made up of rail freight, bank loans and electricity consumption data) is forecasting real growth under 2% …”

The markets have been volatile since this news came out, which is understandable given that China accounted for a large portion of the world’s economic growth over the last decade. A slower China impacts everybody. But keep in mind, the markets have been extremely volatile since the beginning of the year, and commodities and commodity-related stocks were already weak.

I don’t know how soft the Chinese economy will get, or what the ultimate impact will be, but for the underlying health of the stock market, this message from the Chinese is a good step. I’ve believed for a couple of years now that the issue isn’t whether China grows at 7% or 8% (which economists and commentators agonize over), but whether it goes through a period of 0-2% growth. The world now sees that 0-2% is a real possibility. For future returns, low expectations are always good.