"The banks still haven't looked under the hood," warns one executive as the probe at Qingdao port (centering around the duplication of warehouse certificates in order to use a metal cargo multiple times to raise financing) begins to spread to the entire Chinese warehousing sector. As Reuters reports, even if banks or their customers have insurance for the metal, some warehouse sources said they might struggle to get paid if fraud is uncovered or their agents are implicated. Though many global firms are involved in the warehouse industry in China, there has been outsourcing to local firms to cut overheads and avoid dealing with complex local regulations. That appears to have back-fired. One thing looks certain, however, banks involved in commodity financing in China are set to charge higher fees: "The cost is certainly going to go up, whether it's going to be from local banks or international."
Shaken by a fraud investigation into metal financing in the world's seventh-busiest port, banks and trading houses have been made painfully aware of the risks they face storing commodities in China's sprawling warehouse sector.
The probe at Qingdao port centers around a private metals trading firm suspected of duplicating warehouse certificates in order to use a metal cargo multiple times to raise financing.
China's roaring commodity financing business, which has helped drive up stockpiles of commodities at ports to record levels, stored in warehouses not always regulated to the same extent as elsewhere.
And the concerns are spreading...
"The banks still haven't looked under the hood," said an executive at a bank involved in commodity financing in China, referring to China's warehousing sector.
And the legal troubles are growing...
"Warehouse receipts are not title documents, they are documents of entitlement. But they are being used as title documents for sales and purchase and transfer of ownership," said a person at a warehouse company with operations in Qingdao.
Everywhere else outside of China, a warehouse receipt is cut for one party."
A source at a Western bank with direct knowledge of Qingdao said warehouse firms should bear the brunt of responsibility, while a senior official at a warehouse firm at the port said responsibility "remains very much up in the air."
A lawyer, who has previously been involved in litigation over fraudulent warehouse receipts, said banks primary recourse would be against whoever had forged receipts.
"But if the fraudster is gone, the bank may decide that it wants to go against the warehouse," said the lawyer, who did not want to be named because of the sensitivity of the issue.
The relocation of whatever metal there is has started...
Traders said there was a risk the metal could have been already claimed before part of Qingdao Port was sealed off, adding that at least two trading houses had moved metal out as soon as news of the scandal broke.
Some banks have asked clients to shift metal, used as collateral for loans, to more regulated London Metal Exchange (LME) warehouses outside China or those owned and operated by a single warehouse firm to limit their exposure.
But the LME appears a little nervous...
the Qingdao probe has prompted some movement of metal to LME-approved warehouses in locations such as South Korea.
The LME, which is owned by Hong Kong Exchanges and Clearing Ltd, has approved more than 700 warehouses and storage facilities in about 40 locations globally.
"The extension of the LME's warehouse network into mainland China is an important issue for the LME and its users and we alongside HKEx put a high priority on this initiative,” said a LME spokeswoman.
But the reverberations from the Qingdao probe may not be clear cut, since global warehousing firms potentially exposed to the scandal are licensed by the LME to operate in other ports. The LME declined to comment further.
One thing is sure - credit is tightening and costs are rising...
"The cost is certainly going to go up, whether it's going to be from local banks or international,” said analyst Colin Hamilton of Macquarie in London.
This is not over.