Copper stockpiles could wash back into market amid probe fallout

Credit is what makes the commodities world go round. Whether it be copper from Chile, oil from the Gulf or soya beans from Brazil, it all has to be shipped to consumers. This global flow of raw materials is facilitated and underpinned by letters of credit, the point where the worlds of finance and physical trade meet.

Over the past decade more and more of that flow has been heading to China to feed the country's insatiable demand for the commodities it needs for industrialisation and urbanisation programmes.

But somewhere along the line, commodities trade financing started morphing into something else in China. Alongside the traditional use of letters of credit has grown a monster - a massive, complex, amorphous credit network that is nothing less than a shadow banking sector.

In its darkest recesses it is a world of hot money, fake invoicing and outright fraud. As the metal markets have just found out.

Banks and traders are descending on the northern port of Qingdao to find out if the metal they have lent money against is really there and really theirs.

Back in London copper spreads have collapsed in fear that the mountains of metal sitting in China's bonded warehouse zones, locked up as collateral in financing deals, will flood back on to the market.

Those fears are probably overblown, but no one really knows. That's the problem with shadow markets. You only really find out how big and perilous they are when something goes wrong. And something has certainly gone wrong in Qingdao.

It seems as if a local trading company has been caught using warehouse receipts to raise multiple loans on the same metal.