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Though, only in China, of course.
The title refers to the latest anecdote from China markets guru Michael Pettis regarding China’s growing copper debt pile.
A student of Pettis, Michael Liang, recounts a conversation he recently had with a Chinese commodity trader.
It goes something like this (our emphasis):
He [the trader] said that on March, clothes makers, food manufacturers, and others who have never bought copper before were massively buying copper from the tariff-protected warehouses, in Guangdong for example.
The warehouses are in China, but tariffs on the goods there haven't been paid yet, and any purchase from one of these warehouses is regarded as an import.
These enterprises purchased copper just to get L/C [letter of credit] financing, in which banks finance the purchase of the imports for 90 days. This costs the buyer 30 bps. If they defer repayment to 180 days, they pay an additional 40 bps. The import is settled in dollars, which means that the buyer has a dollar liability due in 180 days, but can sell copper today for RMB.
The interest cost for the L/C is around 1.4% annualized, so that even when LME copper trades at a premium to Shanghai copper, the all-in borrowing cost is greatly mitigated by the low cost of L/C and any RMB appreciation.
The reason that banks love to do this business "“ and markets have become so competitive and rates so low "“ is that 1)the transaction is off the balance sheet, and 2)bank clerks get paid a direct commission on the L/C. The more they do, the more they earn personally.
This process stopped a month ago because the PBoC intervened to prevent more copper-based financing. This was the start of the bearish sentiment in copper "“ the massive demand in China is gone. As to the role of my friend and his trading house, they do the physical and paper arbitrage between Shanghai, LME and the tariff-protected warehouses. Their role is to import copper from LME to the tariff-protected warehouses and sell them at a premium.
While the PBoC has reportedly put a stop to these sorts of copper shenanigans for now, the real question is how long were they going on for, and to what degree did they help support the price of copper up until now?
Related links: More proof the Chinese have been using copper as collateral - FT Alphaville China's bonded-warehouse copper mystery "“ FT Alphaville China's copper as collateral addiction - FT Alphaville
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