By John Richardson
CHINA’S commodity imports boom was, of course, mainly down to the rise its middle class as hundreds of millions more of its citizens became rich enough to buy a refrigerator, a TV and a car for the first time.
Or was it?
Daniel De Blocq van Schetlinga, the Hong Kong-based head of the financial advisory firm Polarwide and fellow ICIS blogger Paul Hodges have long been amongst the small minority of commentators who have questioned the conventional wisdom that most of these imports were being made into real things for consumption by real people.
Sadly, the rest of the world is only just catching up as it emerges that:
- China has been buying two-thirds of the world’s supply of iron ore, and has been responsible for 40% of global copper market demand.
- Reuters has suggested that 100 million tonnes of iron ore are currently “off-market” by being tied up in ‘collateral trade’. This volume is enough to build 1,200 buildings the size of New York’s Empire State building.
“These vast stockpiles have also helped to keep world market prices at high levels in recent years. But now there are clear signs that the various schemes involved in the bizarre world of China’s trade finance, which helped finance these stockpiles, are imploding. The reason is that China’s leadership want market forces to play a much greater role in the economy,” write van Schetlinga and Hodges in the June issue of their Your Compass On China newsletter.
It is not just copper and iron ore etc. that are tied up in this bizarre world of trade finance. So, too, we think are polyethylene (PE), polypropylene (PP), mono-ethylene glycol (MEG) and quite probably other chemicals and polymers.
Some people are continuing to argue that this year’s surge in PE and PP imports represents real demand. They tell us: “How come imports are so strong when China’s government has launched a crackdown on speculation? This tells us that even when you have removed speculation from the picture, it is underlying demand growth that is behind the strength in PE and PP imports.”
But, as we discussed last week, China is playing a “whack a mole” game. Each time it whacks one particular mole – i.e. a loophole through which speculation is taking place – another one pops up. But they are not going to stop playing the game until they win.
We feel that this is the end-game for many investors in China. They are desperately trying to use commodity imports to complete property and other deals as soon as possible, before Beijing’s on-going reforms make it impossible for them to avoid substantial losses.
How are China’s reforms evolving and what will this mean for chemicals and other commodity traders? Here are some of the Your Compass conclusions:
- Many banks are now increasing their deposit level for Letters of Credit from 20% to 50%.
- Many of the companies involved in the ‘collateral trade’ probably cannot afford a 50% deposit, when the time comes to rollover their borrowing.
- They will then have to close their financing deals.
- The copper or other commodity will then return to its original owner.
- And as demand has slowed still further, they may well have to sell it.
- The impact could be large, given China’s dominant position in world markets.