How China's Commodity-Financing Bubble Becomes Globally Contagious

Tyler Durden's picture

"Marubeni [the world's largest soybean exporter to China] is deluded in thinking that payments will come once the cargoes have sailed," is the message from an increasing number of liquidity-strapped Chinese firms, "If they take these cargoes, some could go bankrupt. That's why they choose not to honor the contracts." As we explained in great detail here, this is the transmission mechanism by which China's commodity-financing catastrophe spreads contagiously to the rest of the world. A glance at the Baltic Dry is one indication of the global nature of the problem (and Genco Shipping's $1 billion bankruptcy), but as Reuters reports, "If buyers cannot resolve the issue, they may also cancel future shipments."

 

Reuters notes that China's soybean imports in the first quarter jumped 33.5 percent, a record for the quarter and industry sources see a rush of cargoes in the second quarter. The rise comes amid an increasing use of soybeans in financing trades to secure credit.

Traders estimate more than 10 million tonnes of soybeans, out of China's imports of 63.4 million tonnes last year, are imported for financing annually.

And the lack of liquidity and forced losses means China's buyers ain't paying...

Chinese buyers may default on a further 1.2 million metric tons (1.32 million tons) of soybeans worth about $900 million being shipped from the United States and South America, to avoid incurring huge losses in a depressed local market, the country's top soy buyer said.

 

...

 

Honoring these deals would cause Chinese buyers to incur a loss of as much as $7 million per shipment,

 

"If they take these cargoes, some could go bankrupt. That's why they choose not to honor the contracts," Shao said.

Of course, this odd 'beggars are choosers' almost monopoly of buying pressure dry-up means Chinese buyers can play hard-ball...

"Most of the cargoes were delivered by the seller before receiving letters-of-credit and buyers are unwilling to pay now because they will suffer massive losses," said Shao, speaking from a hotel suite he uses when in Rizhao in this eastern province.

 

"If buyers cannot resolve the issue, they may also cancel future shipments."

 

...

 

Some Chinese commodity buyers have previously threatened to default, or cancel cargoes, to force sellers to take lower prices.

 

...

 

"Marubeni is deluded in thinking that payments will come once the cargoes have sailed," said an industry executive also based in Shandong, who declined to be identified

 

With so many shipments at risk of a default, Chinese buyers now have a upper hand in bargaining for lower prices.

 

"Most of the cargoes will eventually be sold to China. This will force sellers to renegotiate prices, which will benefit buyers,"

And the lower prices will only exacerbate liquidity problems as collateral value tumbles on the soybean-backed loans.

And this means counterparty risk is rising broadly - which means haircuts (or Letters of Credit) soar, collapsing liquidity conditions and leading to a further vicious tightening cycle...

Banks, once content to rake in profits from the lending, have been spooked by growing losses at crushers and trading firms and have begun tightening credit.

 

"They are asking for more a higher deposit to opening a LC (letter of credit) nowadays; before it was set at 10 percent of the contract value but banks have gradually raised the level to between 20-30 percent," said an executive at a trading firm.

 

Industry sources said the hike has severely crimped traders' cash flow, with weak demand leaving them with high inventory they cannot liquidate fast enough.

As we explained previously,

While apologists of China's collapse have been quick to point out that China's credit collapse would be largely a domestic issue, with little foreign creditor exposure at either the public debt, or private - corporate - debt levels, one thing nobody can deny is that if and when Chinese trade routes grind to a halt, the downstream impacts would be devastating, and spread like wildfire as the offshore supply chain is Ice 9'ed.

And sure enough that is what Reuters reports above is happening... which means only one thing...

We explained precisely this a few days ago in "What Is The Common Theme: Iron Ore, Soybeans, Palm Oil, Rubber, Zinc, Aluminum, Gold, Copper, And Nickel?" As briefly noted above, these are all the commodities that serve as conduits in China's numerous Commodity Funding Deals. Only no more.

Which means that far form merely crushing exporters who suddenly are dealing with Chinese importers who have torn apart contracts, obviously with no recourse, suddenly China's entire "hot money" laundering infrastructure (which as explained over the weekend, has gold performing an even greater role than copper) is about to collapse.

And when the counterparties of China's hundreds of billions in CCFDs decide to also get out of Dodge and unwind these deals (amounting to hundreds of billions in notional), only to find the underlying commodity has not only been re-re-rehypotecated countless times and has been sold, then there is truly no way of saying what happens next.

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Almost Solvent's picture

This should be an epic unwind.

Midwest soybean farmers ain't gonna put up with getting shafted by orientals for long.

Plus the expansion of Obamacards is set to take off later this year.

I'm lovin' it!

http://www.npr.org/blogs/codeswitch/2014/04/18/304591220/the-golden-arch...

Vint Slugs's picture

Forget the USA midwest soybean farmers.  What about the Brazilians?

Ironic isn't it?  Marubeni is a Japanese trading firm with China as a major client at a time when Chinese "courts" have deemed that (non-sovereign WWII) debt obligations betw China & Japan should be settled by Chinese confiscation of Japanese assets.

DoChenRollingBearing's picture

 

 

A nice lesson can be learned here.  If you sell to China by Letter of Credit, don't ship before you have received an L/C and that it is confirmed by your bank.

Or tell the Chinese to pony up 20% in advance (before cargo arrives to port).  They don't buy it, you keep the money.  That's what I did a long time ago selling to Venezuela...  

:)

Kayman's picture

...an irrevocable, confirmed LC

issued by a bank that doesn't go bankrupt.

Bindar Dundat's picture

That used to mean a major U.S. bank when I was doing trade with China.  Not so sure anymore..

post turtle saver's picture

step 1: Asian financial crisis

step 2: trade war

step 3: regional war in central Europe

step 4: Russian Flu 2, The Sequel

c'mon guys, this playbook was trotted out in '97-'98... history may not repeat but it sure as hell rhymes

Stuck on Zero's picture

Gold exchange bitchez.

 

Squid-puppets a-go-go's picture

indeed. there's been a rash of commenters in the last coupla weeks opining about gold going well above $10k/oz by 2020, more than the usual suspects.

I mean sheesh, Ron Paul saying $50k not out of the question?

DoChenRollingBearing's picture

There are at least THREE active bloggers (besides Fringe Blogger Bearing) who say that $55,000 - $130,000 (non-hyperinflated dollars) will be the price before too long.  Here's the King:

http://fofoa.blogspot.com/

It is long & hard reading, I would start in late 2009 (October or so), you will have to be prepared to invest a lot of time.  But, his first article in February 2014 is a relatively good summary of his ideas.

 

EDIT:

Even Jim SInclair thinks $50,000 is reasonable (so that's four), here's a link:

http://www.jsmineset.com/

Modern Money Mechanics's picture

It is not that complicated. Use the (constant) value of labor as the metric rather than the always changing price of Federal Reserve Notes. Most places in the world, people put in a 12 hour day for a 10th of an ounce of silver. Thus, an ounce of silver holds 10 days of 12-hour labor. Using minimum wage, that makes an ounce of silver worth ~$1,000. And anyone can buy an ounce of silver now for $20 in FRNs. It is the deal of a life-time if you can hold on to it longer than the exixting system can keep the confidence of Joe Sixpack.

Cabreado's picture

"there is truly no way of saying what happens next."

Frustrated Little Boys in High Places will start Wars.

TheReplacement's picture

So I get deflation out of that.  But add in all the currency printing (real and virtual) and we should get inflation.  I suspect we will get on and then the other as the financial yoyo strips wealth from everyone from top to bottom or vice versa (bottom first starting years ago I suppose).

Gold may be worth a lot in the future.  The question is, will you starve to death before it then?

Caviar Emptor's picture

Ha yes, grasshopper, biflation is deeply embedded in the root of the problem

dryam's picture

It's more than biflation.  There will be a reset on the pricing of everything.

OpenThePodBayDoorHAL's picture

Rickards rightly says it's a tug-of-war. Those always end with one set of guys in a pile on the ground. My bet is on the inflation team "winning".

Seeking Aphids's picture

The difference between gold and the other commodities listed is clear: gold remains a highly liquid asset that is essentially money. Whoever ends up with the gold wins. Whoever ends up with the copper has....copper.

walküre's picture

If you think that's all bad news... Imagine if you will, the 2016 US presidential race of Bush vs Clinton. What's the point anymore?

NoDebt's picture

You just ruined my evening.  Thanks.

weburke's picture

Jeb missed the darkness injection, he is a fourth degree knight of columbus........ If you are willing to view yourself as a citizen of the new rome empire home base........you will at least be realistic. Look at the stars and stripes, what is the color of the braiding around it. Regular folks are missing what makes the betrayers cooperate. The reason harvard wants history removed from schools is ? 

Bastiat's picture

Can you explain that last sentence?

Surging Chaos's picture

It's like War of the Roses, but with a modern twist!

OpenThePodBayDoorHAL's picture

There won't be anything left for me to vomit if that's how it plays out. RIP America.

Caviar Emptor's picture

If China goes bust, then cue Janet to print a quadrillion overnight to 'flood the market with liquidity' and buy up all the bad Chinese debt and stick it on the balance sheet. Then a quadrillion more to make sure all world citizens have plenty of drugs to take to sedate their worried minds.

Long fortune cookie companies: they'll be the first to get bailed out

AdvancingTime's picture

 Such a scenario could cause a loss of faith in intangible products or goods.  The modern economy that has evolved over the last several decades is loaded with interwoven contracts reeking of contagion.

If faith drops in these intangible "promises" and money suddenly flows into tangible goods seeking a safe haven inflation will soar. It is important to remember that debts can go unpaid and promises be left unfilled. More on how we have sowed the seeds for inflation to suddenly strike in the article below.

http://brucewilds.blogspot.com/2014/04/inflation-seed-of-economic-chaos....

Unknown Poster's picture

Chinese financiers are world class at gaming the system.

logicalman's picture

Financiers are world class at gaming the system.

FIFY

old naughty's picture

Puppet masters behind all financiers are galaxy class at gaming the system.

Doubleguns's picture

If folks stop delivering to china what happens? When there is no food in china, they will pay, someone will pay and probably in US treasury bonds. Hungry folks in the streets would not bode well in china. You need a billion bullets to deal with that problem. Maybe the cargo ship they confiscated was carrying soybeans.

Voided contracts? Really!! Money up front now folks. This is getting crazy. I guess they could always eat treasury bonds if it comes down to that.

Do not invest in soybeans this year.  

Vint Slugs's picture

Do not invest (long side)  in commodiies this year.

rosiescenario's picture

...and there suddenly might be a new supply of bonds hitting the market.

 

It is becoming increasingly clear why the Chinese government was encouraging its people to buy gold.

pitz's picture

There's no shortage of food in China.  That's why these cargos are being rejected/defaulted on. 

MrSteve's picture

I bet China does have the money to buy food, they just want the Early
Bird Special pricing. If they make you hold your assets under water long enough, they'll get it.

My Days Are Getting Fewer's picture

I guess for some its easy come, easy go.

We ship nothing outside the US or Canada without 100% cash money in our US bank account.

Or, the buyer pays 50% cash down and puts up, with our US bank, an irrevocable, unrestricted and unconditional letter of Credit, which we draw down before the goods leave the USA.  And, the L/C is limited to 50% of the total purchase price (including off-shore  installation).  We do this for shipments to India and elsewhere.  You have no recourse, once the boxed shipments are on board and en route.

Winston Churchill's picture

I had a confirmed irrevocable LoC dishonored once. When Saddam invaded Kuwait.
Exim paid up a year later.These exports will be insured.

q99x2's picture

Arrest the exporters for treason. Impeach Obama.

AdvancingTime's picture

Whether by design or merely as a byproduct of globalization we have weaved a web of financial transactions that circle the globe. Over the last several years as money was printed by the central Banks it was not contained in the countries where in was printed. This money flowed across borders influencing and distorting markets and prices across the world.

Some people have been calling for a "world currency" for years. the saying "one should never let a good crisis go to waste" means a meltdown with high levels of fear would present a perfect opportunity to advance this agenda down the field. Remember many people with agendas have a lot to gain when a major shift in the currency markets takes place. More on this subject in the article below.

http://brucewilds.blogspot.com/2014/02/contagion-may-lead-to-new-world-c...

mumbo_jumbo's picture

we already have a world currency and it's called the US dollar.

the dollar will end as that by a major war and only then, there is no country on the planet that isn't printing like mad but still need dollars to settle accounts so I'm not sure how the end of the dollar is good for anyone.....and i can't eat or drink gold.

and lets not forget that (as posted here many times) China has printed even more than the US and by a lot so.......

WMM II's picture

"And when the counterparties of China's hundreds of billions in CCFDs decide to also get out of Dodge and unwind these deals (amounting to hundreds of billions in notional), only to find the underlying commodity has not only been re-re-rehypotecated countless times and has been sold, then there is truly no way of saying what happens next."

 

sure there's a way of saying what happens next.

it may not be accurate, but i'll give it a go:

First, you catch the drift of the news that the 'banks' (except gulpman sucks and the jaypeemoargoon group) are getting out of the commodities business because of fed policy?

ok, back to the fine article by what is certainly an veteran zh quality author. ( they do stand out, don't they? its a good thing. :) )

the dumb suppliers did business without gettin paid for it. that'll stop. the unpaid for surplus of 'commodity" in this case is perishable and good for one thing. not financing, of course. the price for soybeans does in fact drop in china. it has to. surplus in a communist country.

then of course the price of soybeans will be lower in the future too. after all, the poor thing will no longer have to carry the cost of the no-value-added business model called 'no delivery here' speculators.

now, let's wait and see what comes to pass.

 

:)

mumbo_jumbo's picture

it's getting real troublesome posting and even being here, Firefox keeps trying to run a script that fucks up the whole experience and i just got caught in a nightmare browser lock up.

 

WHAT. THE. FUCK. IS. GOING. ON????  MAYBE YOU COULD SLOW DOWN ON THE FUCKING ADS THAT SEEM TO BE THE MOST IMPORTANT CONTENT HERE OF LATE????????????????????????? CAUSE MANY TIMES DURING THE LOCK UP I CAN SEE IN THE LOWER LEFT CORNER OF MY BROWSER "transferring from 'insert add domain name here'" before i see anything the hedge has to offer.

JUST A FUCKING THOUGHT.

UselessEater's picture

Ad Block Plus works well for me.

Serenity Now's picture

mumbo,

Thanks for mentioning this!  I have been having trouble for a few weeks.  It takes forever to post, scroll through a thread, etc.  It's a new ZH pain in the ass, and I think it's due to the ads.  The website is locking up way too often, even as I type right now

one

word

per

minute

is

not

a

good

use

of

my

time

 

NoTTD's picture

Using Chrome without problem.

 

Maybe Mozilla is now devoting all its assest to hunting down and punishing homophobes.

Schmuck Raker's picture

"Chinese buyers now have a upper hand in bargaining for lower prices""NOW" being the operative word here.

Peter Pan's picture

When the Chinese were rehypothecating commodities over and over again, the money was not lost. Go to Canada, Australia and elsewhere and see the real estate they have bought.

pitz's picture

Almost no actual "Chinese money" in Canadian RE.  Only Canadian debt.