Chinese copper collateral probe hurts ailing copper price

VANCOUVER – News that some copper stocks at the port of Qingdao were being used as collateral for multiple loans has further damaged a copper price that was already failing to thrive in 2014.

In the last two years market speculators in China have increasingly used stores of copper as collateral to obtain loans. Qingdao is the third-largest port in China for copper imports and of the 800,000 tonnes of copper held in its bonded stockpiles almost half is beholden to financing deals.

When word broke in early June that China’s State Reserve Bureau, the government’s stockpiling agency, is investigating the port’s stocks for instances of collateral abuse, market observers worried banks would turn their backs on copper as collateral, unwinding existing copper-based loans and refusing to make more.

That would have left speculators hurrying to sell their stores of copper, since the metal would have no longer been of use in obtaining debt. Had banks broadly and suddenly reacted in such a way, the resulting flood of copper could have hurt the price of copper significantly.

The actual effect, however, has been more muted. Copper fell roughly 3.5% in the first two week of June, bringing its year-to-date loss to 9.4%. With the addition of the Qingdao-related decline, copper has become the worst performer among the six major metals on the London Metals Exchange so far in 2014.

Several international banks, including Standard Chartered, Citigroup, and Standard Bank Group, have announced plans to review potential fallout from the alleged collateral fraud in Qingdao. However, banks would have to lose broad confidence in the transparency of China’s copper stores for the questions in Qingdao to hurt the market much more. Qingdao’s 400,000 tonnes of finance-related copper equates to less than a day of Chinese demand.

“We believe the tonnages involved in financing deals, especially in Qingdao, are not enough to break the copper market,” said Bank of America analyst Michael Widmer in a report. “Yet liquidity available for financing deals may decline especially for speculative transactions.”

Widmer acknowledged there is a “high probability” Qingdoa is not the only place where borrowers claimed to hold stores of copper that did not actually exist. However, he noted that those lending into the Chinese market have long known about the risk of under-collaterisation and that is why copper did not fall further on the news.

In addition, actual copper demand remains strong. Year-to-date China is still importing refined copper at a record-setting pace. Imports are 34% above 2013 levels so far, despite the Chinese economy expanding at its slowest pace in more than two decades.

The Qingdoao customs agency has now issued new rules to prevent goods being pledged multiple times as collateral. As of July 1 all transactions involving goods within bonded zones of the port must be put on record with the Qingdao branch of the General Administration of Customs.

Qingdao is not only a major copper port: it is also a key port for alumina, aluminum, and iron ore, and potential misuses of those stocks as collateral are now also being investigated.

To avoid the trouble spot, metals traders are reportedly moving stock from Qingdao and even from Shanghai to LME-registered warehouses in Korea, Malaysia, and elsewhere.