London 15/09/2016 - The long-awaited opening of the LME-SHFE arbitrage window has given a slight boost to copper premiums in Shanghai but otherwise failed to lift the Chinese market significantly - financing demand remains moribund.
The physical arbitrage window has been fluctuating between open and closed over the past week. On Tuesday, imports would have incurred a loss of around 200 yuan ($30) per tonne, Chinese sources claimed.
"The arbitrage did open briefly but then it's fluctuated... most of the time it's still small loss-making and only doable for some financiers," a local trader said.
"Financiers were more aggressive and responded strongly to the arb opening in the past but now many of them have quit the arb game - that's why the premiums recovered only a bit," the second trading source in China noted.
Shanghai copper cathode premiums climbed to $50-60 per tonne on a cost, insurance and freight (CIF) basis and in warehouse this week. While this is up $5 from last week, it is still $40 lower than this year's high of $90-100 in February.
As well, this is down as much as 60 percent on average from the 2013 average of $141 CIF and $137 in bonded warehouse - copper financing was then a core business for trading houses in Shanghai until a massive tightening of credit triggered by the Qingdao fraud scandal in 2014.
Since then, small and medium-sized companies have struggled to get letters of credit (LCs) from increasingly cautious banks.
Importers use dollar-denominated copper as collateral against loans with lower interest rates than in the yuan - they sell the metal and invest the cash in higher-yielding assets.
The collapse of premiums over the past few years has been widely attributed to the precipitous fall in financing demand while the onshore/offshore yuan interest rate differential and the yuan-dollar exchange rate have squeezed financiers' margins, traders told FastMarkets.
China's benchmark one-year lending interest rate, which had been much higher than international interest rates for years, is now is at a record low of 4.35 percent after the PBoC cut it five times in 2015 to stimulate the soft Chinese economy.
"Now it's cheaper for financiers to get loans directly from domestic banks [at lower PBoC interest rates]," a trader involved heavily in financing business said. "They don't bother to do such tricks to get cash by using copper as a tool - they don't need to."
Those financiers who are still active in copper imports are those who do not have access to loans from domestic banks via the usual routes but desperately need cash, sources said.
"They have to bear the pain of high costs and risks… they finance copper once they get LCs even without waiting for the arb to open - otherwise, their capital chains will break immediately," he trader added.
Also, the fall in the yuan against the dollar has hit financiers' margins; the likelihood of further depreciation puts financiers at even higher risk. In August 2015, China carried out the biggest yuan devaluation in two decades.
"The exchange rate is so unpredictable [due to government intervention]," the trader noted.
Liquidity has consequently drained from the copper market, weakening support for premiums.
Many market participants surveyed by FastMarkets also believe China's two holidays have dampened markets interest despite the open arbitrage. The Chinese market is closed on Thursday and Friday for the Mid-Autumn Festival and will be absent for the first seven days of October for Golden Week.
"The interval between the two holidays is very short and we are not sure where the market will go after holidays - personally, I am not positive so I've done no deals," the fourth trading source said.
Imports of unwrought copper and copper products fell 2.8 percent month-on-month to 350,000 tonnes in August - this was the fifth straight month of month-on-month declines.
(Editing by Mark Shaw)