Commodities as Collateral

Ke Tang and Haoxiang Zhu

The Review of Financial Studies, 2016, vol. 29, issue 8, 2110-2160

Abstract: We propose and test a theory of using commodities as collateral for financing. Under capital control and collateral constraint, investors import commodities and pledge them as collateral to earn higher expected returns. Higher collateral demands increase commodity prices and make the inventory–convenience yield relation less negative. Our model illustrates these equilibrium effects and suggests that the violation of covered interest-rate parity is a proxy for collateral demands. Evidence from eight commodities in China and developed markets supports the theoretical predictions. Our findings complement the theory of storage and provide new insights into the financialization of commodity markets. Received July 16, 2015; accepted April 7, 2016 by Editor Stefan Nagel.

Date: 2016
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