Thursday, June 26, 2014

A Couple Quick Notes on Gold and other Commodity Financing Scams

First and most important, beaucoup props to FT Alphaville's Izabella Kaminska for getting on to the 'entanglements' of physical and and finance, going back at least a couple years, and setting the intellectual table such that recent revelations at Qingdao and elsewhere came as no surprise to folks paying attention.

Secondly, especially in the case of the gold frauds, this is a financing scam i.e. it will be settled in cash.
There are no "Gnomes of Guangzhou" demanding the metal, they want their damn money back.
Thus rather than creating a demand for physical there will be forced sales, akin to margin calls, of any remaining collateral.

Sunday's big Reuters piece, "After port fraud, China's vast warehouse sector under scrutiny" is a good overview of what the hell just happened, with this morning's Bloomberg gold story being the latest.

For Ms Kaminska's reportage at Alphaville there is no single keyword that gets all the stories but 'commodities' comes close, although it is less than Boolean optimal. 
See also her latest:

When commodity collateral shenanigans go wrong
We’ve long reported about China’s amazing commodity collateral shenanigans, featuring almost every commodityor physical good under the sun.

None of which was a problem for the financing side of the equation as long as the deals could be rolled over and for as long as the collateral did not have to be liquidated.

A few bad loans later, however, and suddenly the need to check in on the underlying collateral has exposed a small problem with relying on commodity collateral to de-risk trade finance. So intense was the demand for cash financing in China that it seems the greatest shenanigan of all was rehypothecation — multiple use of the same collateral many times over for many different loans....MORE
She goes on to look at some of the knock-on effects including the FX implications

One last note. Although a lot of the flim-flammery was rehypothocation, much was straight up fraud, obtaining loans on collateral that didn't exist in the first place.