Commodity Trade Finance

The ‘Commodity Trade Finance’ market

The ‘Commodity Trade Finance’ market is usually dominated by the banks. However,it does cover far more that half of this market (compared with 80% before the financial crisis of 2008). Increasingly stringent regulations (Basel III, EMIR, AML – CFT [1],KYC, etc) limit the banks in their lending capacity.

Fight against money laundering and the financing of terrorism

Since the crisis, the actors in the trading of raw materials suffer from a lack of credit while their default rate is at its lowest. In this context, traders and commodity producers are turning to other actors (investment funds, commodity-trading houses) in order to meet their needs.

The “Commodity Trade Finance.

Raw materials (“commodities” in English) is bought and sold directly between producers and users via long-term contracts or contracts in the form of trading short-term trade awards. A widespread fall in prices of raw materials were observed from thefinancial crisis. In addition, the rapid development of emerging countries and France, so it is important to Comprendre les marchés boursiers (includingthe BRIC [1]) and global population growth cause growth of the demand for raw materials, be they agricultural, metals for industry and energy sources such as gas andoil. Its funding is highly strategic for most countries, industrial enterprises and end users.

Commodity Trade Finance‘: supply chain

 

Since 2008, many banks financing and investment (BFI) leave the raw materials sector, considered less cost-effective, and highly consumer of own funds in the new prudential regulatory Basel III framework. Yet commodity trading is traditionally regarded as high-risk little in comparison to the market of the real estate for example. Banks that are among the best forex traders of this sector with a global reach have reduced their exhibitions. Thus, the rapid need for capital pushes clients to other sources of funding because it barely be satisfied by banks.

A difficult environment for banks

Three major causes explain this shortage of credit. Firstly, it reached the “Trade Finance” via tensions in the interbank market. As a short-term (90-120 days) credit activity, its rate depend very strongly on interbank rates. The tensions encountered on the liquidity impact strongly international trade in raw materials. On the other hand, increased capital requirements related to the Basel III regulations have pushed banks to limit credit lines granted to the actors in the trading, as own funds cover them was more expensive. Finally, European banks have suffered from a shortage of dollar liquidity, when, at the height of the sovereign debt crisis in 2011, U.S. banks have restricted lending dollars to their counterparts across the Atlantic, deemed risky. A largepart of world trade in raw materials is carried out in dollars, of trading of raw materials were highly mechanically impacted

Other regulations (including the KYC “Know Your Customer” requirements), the fines drastic for lending to dubious customers in addition to the decline in commodityprices also contributed to the sharp reduction of the presence of banks in this sector, leaving room for a multitude of new non-bank players.

These new competitors must follow the same KYC rules than most banks, but they are not subject to limits on their loans. Their processes are much more fluid than those of multinational banks. This translates into shorter response: If a major bank needs six months to approve a cargo of fertilizer in an African country, the non-bank players say approve this even funding in three weeks.

 

So who are these new actors?

Non-bank players (NBFIs) have an important role in the trading of raw materials market. Non-bank institutions thus benefit from the decline of banks and their ability tomore easily provide capital to fill the shortage of credit and the needs of the actors in trading. In the same way as banks, they are present at a global level in all sectorsof raw materials and meet different customer needs through:

All types of funding (short / long term, guarantees and diversified structures)

Monitoring throughout the supply chain.

 

Depending on the type of non-bank institutions, the latter opt for specific solutions:

Some use bond financing: as an example, Trafigura (trading house) has issued 300million of bonds to finance its trading activities.

Other investment funds are opting for fundraising via syndication.

Other institutions propose more traditional type letters of credit “LC” or even guaranteed.

Hedge funds provide commodity finance funds adapted to emerging markets. Theirstrategy aims at financing transactions high risk and high return on investment. Example, the Hedge fund «Scipion Capital» funds materials trading first via short-term loans and loans guaranteed to cover the transport of goods from the Interior of Africa to ports.

Hedge funds and other raw materials financing providers take care to indicate that their strategy is not intended to compete with the banks but focuses rather to fill the market gap by providing sources of financing adapted to the needs of the customers.