I don't see a problem with using pencil lead, but a 4 - 5 foot leader is getting a bit long. I've seen lots of guys use this set-up and as long as they are not jigging or setting the hook at nothing at every cast, I really don't have an issue with it. The longer leader may lead to more snagged or flossed fish, but as long as they release the snagged fish properly, then who am I, or DFO, to argue? In clear water conditions, it makes sense to go to a longer (and lighter) leader. Again, 4 - 5 feet is too long IMHO. But using pencil lead itself?
There does seem to be some wannabe cops out there and sometimes these guys are worse than the snaggers themselves. There's a respectful way of telling people what the law is, or your opinion of the law. Earlier this season, there were a couple of guys fishing in the dark with glo-sticks on their floats. They were within the hour before sunrise. One guy aggressively told them that they were breaking the law, and he was promptly told by them to "you-know-what". I chose to pull out my iPhone, and look-up DFO's information about using lights and politely showed them the information. They thanked me for it, and it was a much better experience all around.