Bank pullback from commodity trade finance presents opportunity for specialist funds

London

A BANKING pullback is giving specialist funds the chance to plug part of the widening hole in commodity trade finance.

A series of industry blow-ups has seen banks such as ABN Amro Bank, BNP Paribas and Societe Generale cut their role in financing the global trade in natural resources. Those lines of cheap credit are drying up as a surge in commodities from wheat to copper increases the need for loans.

The trading meltdowns, culminating in the collapse of fuel oil trader Hin Leong Trading last year, are also accelerating the banks' shift since 2008 to focus on the industry's top tier, while smaller trading houses are squeezed. That's providing an opportunity for funds, although for the moment their presence is just a fraction of the biggest banks, which can have exposure exceeding US$20 billion.

As traditional lenders withdraw, there's been an increase in the range and quality of commodities traders seeking non-bank financing, according to Kristofer Tremaine, founder of London-based Kimura Capital, which has underwritten billions of dollars of loans this year. "Since the liquidity dried up, we're seeing household names," he said. "On a risk-adjusted basis, we're making better returns now than we were when we were just purely financing smaller companies."

Demand is set to grow, with the longstanding financing gap for global trade widening since the pandemic started. Asian Development Bank figures show a 15 per cent increase in unmet demand for trade finance from 2018 to the end of 2020.

The regulatory backdrop is also having an impact, with Basel III and the incoming Basel IV making commodity trade finance a less attractive business for banks. Smaller traders also became "unbankable" to some institutions as they shifted to serving the largest players since the global financial crisis, said Sammy Fong, chief executive officer of Asia-Pacific-focused fund EASTvine Capital, which started up in 2018.

Funds have sensed an opportunity and are extending their offerings beyond the high-rate, high-risk end-to-end deals they traditionally specialised in. When Dutch asset manager NN Investment Partners started its Flex Trade Finance Fund late last year, it was looking to participate in the billion-dollar syndicated credit facilities favoured by banks and large traders.

"Historically trade finance funds have chased a lot of risk, aiming for double-digit returns on pretty exotic trades," said Suresh Hegde, NNIP's head of structured private debt. "Our strategy is very, very different. We're chasing a lot less yield."

In the light of recent defaults and litigation, partnerships with larger financial institutions offer greater security, said Hegde, who wants to expand NNIP's fund by more than 12-fold to about US$2 billion over the longer term.

The experiences of the past couple of years underline that funds seeking growth will also need to tighten their credit practices with smaller clients, according to Eric Chen, business development manager at GUUD Finance, which manages a digital platform for corporate borrowers.

"How a lot of people got hit was going unsecured on payables or receivables, but if you have direct security over the cargo and only release on payment, that is something where the opportunity for funds will lie," Chen said.

Still, he said the question remains whether funds, which typically charge higher interest rates, can play the same role as banks.

"There's for sure a financing gap for small and mid-size traders, but can that be filled by higher-cost finance funds?" said Chen. BLOOMBERG