Chinese banks risk becoming entangled in the fallout from a liquidity freeze at an exchange for rare metals that has also been providing high interest rate investment products through bank branches across the country.

Against a backdrop of renewed turmoil in the Chinese equity markets, there have been protests in the past two weeks in both Kunming and Shanghai as investors in the financial products sold by the Fanya Metal Exchange demand their money back. It emerges that some have already started taking their protests to the banks that distributed the products.

Fanya is a forum for trading minor metals like indium and bismuth that has also functioned as a shadow banking conduit — not only leveraging metal deposited with the exchange as collateral for loans, but offering high interest investment products to retail investors.

The exchange, which is based in Kunming, stopped disbursing funds this month to depositors. About $6.4bn in investments is frozen, according to estimates by Chinese media.

The exchange attracted regulators’ attention at least eight months ago but references to Fanya were later suppressed leaving potential investors ignorant of authorities’ concerns.

The online report of a November 2014 meeting by the Yunnan provincial government on “tidying and reorganisation” of local exchanges included a warning by the head of the Yunnan branch of the China Securities Regulatory Commission that “risk at the Fanya Metal Exchange was noted as very large”.

Shortly after the report was published on the CSRC website it was reposted with that sentence removed, according to Strategic Metal Report, a metals information service that published the original and the redacted version in a November article. “It was pretty much immediate,” said Strategic Metal founder Terence Bell, adding that “within the next month or two” the exchange stopped announcing purchases of metals.

Retail investors are demanding their money back. One of the protesters said his mother invested Rmb1.5m ($242,000) in Fanya products purchased through her local Bank of China branch in Xinjiang, near the frontier with Central Asia. “We’ve tried to report the case to the police’s economic investigation bureau, but they said it’s not under their jurisdiction. We also approached Bank of China, they also said they can’t do much,” he said.

Online notices indicate the products were marketed through Bank of China branches in Aksu, Xinjiang, and in Hangzhou, a prosperous city in the Yangtze Delta. The products were also marketed through other banks, according to material from Fanya Metal Exchange’s website and former salespeople.

Chinese bank branches will sometimes handle deposits for unaffiliated financial products or allow them to be marketed on premises without officially endorsing them. Former salespeople for Fanya investment products described the banks as third-party custodians.

That distinction is not always clear to retail investors. In some past cases when wealth management products gone awry, regulators have insisted that the bank accept some responsibility. Bank of China declined to comment.

The Fanya Metal Exchange’s use of normal banking channels to market its products could mean its troubles have broader systemic effects, if banks are held responsible by regulators.

“We can’t comment on Fanya because they are not under our jurisdiction,” the Yunnan securities regulator said on Tuesday. Asked about the redacted report, the regulator said it was “normal information release by us”.

In Kunming — until recently one of the fastest growing cities in south-west China — the combination of falling coal and minerals prices with a rising inventory of unsold properties is proving toxic.

The largest real estate company is on life-support and a number of smaller companies have failed, setting off a chain reaction of defaults on shadow loans, business owners said recently.

The troubles at the Fanya Metal Exchange coincide with a broader slowdown in the Chinese economy and in commodity markets.

Fanya fallout spreads to rare metal prices

Liquidity problems at the Fanya Metal Exchange are pressuring international prices of some rare metals, with concerns that the exchange’s holding stocks of one metal, indium, may exceed four years of global demand.

The exchange has built strategic stockpiles of indium, a metal used in smartphones and LCD screens, as well as other metals used in high-tech applications, while launching index products linked to the prices of those metals.

“Whoever can get out first, will,” said Liu Yajuan, analyst with Asian Metal in Beijing, which recently published a report on the potential impact on indium of the Fanya Metal Exchange troubles. “Downstream processors are buying as little as possible in anticipation of a continuously falling market.”

The metal has strategic implications as a component in high-tech and military applications. Several years ago during a bout of anti-Japanese nationalism, Chinese industrial policymakers proposed the idea of building strategic stockpiles of indium, to counter the strategic stockpiles held by Japan since the early 1980s.

On Wednesday, the spot price of indium was Rmb1,760-Rmb1,860 per kilogramme — almost 50 per cent lower than the Rmb3,200-Rmb3,400/kg quoted in early March when Fanya stopped buying the metal, according to Asian Metal, a pricing and information service based in Beijing.