China Rule Changes May Halt Copper-Financing, Goldman Says

China Rule Changes May Halt Copper-Financing, Goldman Says

New rules from China to control capital inflows are likely to end commodity-financing deals, hurting the short-term outlook for copper, analysts at Goldman Sachs Group Inc. wrote in a research report today.

The regulations from the State Administration of Foreign Exchange, effective from June, will probably mean an end to Chinese use of copper as a tool to enable interest rate arbitrage, Goldman said. The London Metal Exchange market may need to “carry” as much as 250,000 metric tons of additional physical copper over one to three months, about 4 percent to 5 percent of quarterly global supply, the bank said.The clampdown follows severe discrepancies in China’s trade data in the first four months that aroused suspicions about companies using trade deals to evade capital controls and take advantage of interest-rate arbitrage between China and overseas. Some Chinese banks have stopped issuing letters of credit for copper importers as the regulators tightened rules governing such trade, the National Business Daily reported yesterday.

“The policy shift is directly targeted against abnormal trading activity and will at least have a negative impact on copper,” Judy Zhu, an analyst at Standard Chartered Plc, said by phone from Shanghai today. “Still, we don’t know what portion of copper trade falls under the more stringent rules.”

Goldman sees downside risks to its six-month target of $8,000 a ton and unwound a September-delivery recommendation at a 3 percent loss, according to the report.

‘Bearish’ Prices

“While some uncertainty remains, the new policies are in our view likely to bring to an end to these financing deals,” analysts led by Jeffrey Currie wrote. Stopping the deals completely “would likely be bearish for copper prices.”

Copper for delivery in three months on the LME declined 2.9 percent to $7,260 a ton at 3:42 p.m. in Tokyo. The metal has retreated 8.5 percent this year. The contract for delivery in September on the Shanghai Futures Exchange fell 2.6 percent to 52,200 yuan ($8,508) a ton.

A short-term increase in supply will also widen the so-called contango, where later-dated contracts cost more than those with nearer dates, according to the report.

China’s trade surplus is 10 percent the official $61 billion reported so far this year after accounting for fake transactions used to disguise so-called hot-money inflows, according to a report from Bank of America.

The state administration increased scrutiny of trade and called on businesses with substantial foreign-exchange receipts to explain whether the capital flows are supported by real trade, analysts at Barclays Plc said in a research note earlier this week.

To contact Bloomberg News staff for this story: Feiwen Rong in Beijing at frong2@bloomberg.net

China Banks Turn Away From Copper Hot Money, Business Daily Says

Some Chinese banks have stopped issuing letters of credit for copper importers after a government crackdown on hot-money inflows, the National Business Daily reported today.

Importers have sometimes used copper shipments primarily to gain letters of credit from banks, which they then used for other investments, the newspaper said, citing bankers it didn’t identify. The China Banking Regulatory Commission’s Shenzhen branch on April 24 urged banks to crack down on “irregular trading activities” as some trading companies created paper transactions in which copper sometimes never left warehouses, to take advantage of interest-rate arbitrage between China and overseas, according to the report.

The practice has also been used to get letters of credit from banks outside China in foreign currencies such as U.S. dollars, and then to bring these funds into the country to invest in higher-yielding yuan-denominated assets, according to the newspaper report. This has contributed to gains in the yuan, it said.

China’s trade surplus is 10 percent the official $61 billion reported so far this year after accounting for fake transactions used to disguise hot-money inflows, according to a report from Bank of America. The estimate underscores the size of possible discrepancies in the trade data, which has been disputed by analysts for four months and has triggered currency regulator’s recent scrutiny of cross-border capital flows.

The State Administration of Foreign Exchange, China’s foreign exchange regulator, called on businesses with substantial foreign exchange receipts to explain whether the capital flows are supported by real trade, analysts at Barclays Plc said in a research note yesterday. Businesses were given 10 days to provide all the documentation to the banks, and banks would have to re-classify their clients’ risk levels by the end of May, Barclays said.

To contact Bloomberg News staff for this story: Feiwen Rong in Beijing at frong2@bloomberg.net