Suspected metals fraud in China sparked claims of betrayal by both U.S. bank Citigroup and trade house Mercuria over who would absorb about $270 million in exposure to financing deals, a London court heard this week.
Mercuria held copper and aluminium in Chinese warehouses and agreed a series of deals that were effective loans from Citi using the metal as collateral.
Under the repurchasing agreements, or repos, Citi agreed to purchase metal from Mercuria before selling it back at a slightly higher price to include interest on the effective loans.
The two groups were in the midst of several repo deals when the potential fraud in China was uncovered in warehouses in both Qingdao and Penglai. Citi demanded early repayment of the repos and Mercuria refused.
Citigroup was in a “state of panic” when alleged fraud was uncovered in two Chinese ports, Mercuria Energy Group Ltd.’s lawyer said as a London trial over disputed metal finance deals got under way.
“The discovery of the fraud was a massive problem for Citi as it was their metal and it was at their risk,” Mercuria lawyer Graham Dunning told a London judge. “There was a state of panic.”
The disputed copper and aluminum is under lockdown in the ports of Qingdao and Penglai, where Chinese authorities are investigating an alleged fraud. Neither side can get access and they don’t know how much of the metal is there, Dunning said at a pre-trial hearing in August.
Citigroup argues that it effectively delivered the metal to Mercuria under the terms of a sale-and-repurchase agreement by handing over warehouse receipts. The bank says it is owed about $270 million. Mercuria, a Cyprus-based firm with major trading operations in Geneva, argues the products were never properly delivered.
“It appears that substantial quantities may be missing from the warehouses or may be the subject of multiple pledges,” Dunning said today.
The probe at Qingdao, China’s third-largest port, is examining companies owned by a Chinese-Singaporean metals trader, Chen Jihong, who is alleged to have pledged the same metal inventories multiple times for collateral on loans. Chinese authorities have uncovered almost $10 billion in fraudulent trade, including irregularities at Qingdao, according to the country’s currency regulator.
Citi was worried about reporting a potential “hole” in its balance sheet to regulatorswhile Mercuria was in the process of arranging a huge acquisition of the physical commodities business of bank JP Morgan Chase, lawyers said.
But the Chinese authorities imposed a lockdown on parts of the two ports where the metal is held, preventing anyone, including Citi, Mercuria and the warehouse operators, from accessing the material, court documents said.
“We expect them (Mercuria) to keep us out of a potential messy situation,” according to an email from John Young, Citi’s managing director of commodities business development, cited in court documents.
Mercuria’s Chief Financial Officer Guillaume Vermersch promised Citi that “Mercuria would make Citi whole if there were issues concerning the underlying metal”
So Citi went for Blackmail…
Young suggested that Mercuria be reminded that it had extensive financial arrangements with Citi, including $4 billion in credit and borrowing facilities and over $14 billion of bilateral trade facilities, plus potential help in financing the purchase from JP Morgan.
But Mercuria resisted what it regarded as unfair pressure…
“Citi hoped that…it could force Mercuria to agree on its quick exit from a difficult position and hence enable Citi to fill the potential hole in its balance sheet… which was concerning the regulators in London and New York,”
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