Goldman Warns About Chinese Commodity Financing

inancing arrangments in China using commodities from copper to rubber as collateral to obtain credit may be unwound in 12 to 24 months, driven by increased yuan volatility, Goldman Sachs Group Inc. said.

As much as 1 million metric tons of copper and 30 million tons of iron ore could be released if the deals unwind, the bank said in a report today. The unwinding would be bearish “given relatively limited physical liquidity to absorb the shock,” analysts led by Jeffrey Currie wrote. For now, the deals remain profitable and an “abrupt government crackdown” on them is unlikely given the potential effect on the country’s economic growth, they wrote.

“Our view is that Chinese commodity financing deals will gradually unwind over the medium term, driven by an increase in foreign exchange hedging costs, which would slowly erode financing deal profitability and eventually close the interest rate arbitrage,” the analysts wrote.

The transactions using commodities as collateral made as much as $160 billion, or 31 percent of China’s total short-term foreign-exchange loans, the report showed. Gold, copper and iron ore are most commonly used as collateral, followed by soybeans, palm oil, rubber, nickel, zinc and aluminum, the bank said.

via Bloomberg

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