After decades in the dark, back-to-back ‘strings’ of commodity trades have been thrust into the spotlight in the trade credit insurance market. A slew of litigation between traders and insurers has forced the market to revisit its approach to these structures, and as the dust settles on those disputes, attention is turning to the way forward for both underwriters and policyholders.
Over the last few years, legal disputes have shone a light on a somewhat obscure corner of the commodities trading market: how to provide trade credit insurance cover for back-to-back transactions.
These transactions go by different names – string trades, flash trades, structured trades – and vary widely in form. The common factor in cases faced by insurers is that trades are entered into by intermediaries within a wider chain of transactions – not because the parties involved intend to take delivery of the goods at the destination port, but as a means of generating liquidity.
A hypothetical example: a commodity trader purchases soybeans from a producer in Brazil, and sells them to a buyer in China. While that cargo is on the water, it changes hands several times. One trader purchases the cargo and immediately sells it to another trader, on 90-day payment terms. That trader does the same thing, and so on, until the cargo is ultimately delivered to the end buyer.
Those intermediary traders may raise financing against the receivables generated by each leg while deferring payment by 90 days, in doing so generating crucial short-term working capital that should ideally be more valuable to the business than the cost of financing. The end result is that the Chinese buyer has its soybeans, the Brazilian seller has been paid, and traders along the way make the most of the additional liquidity before paying what’s due.
In practice, numerous other structures, timeframes and financing mechanisms exist. The transaction could be circular from the start, with the cargo ending up in the hands of the original seller. In some cases, commodity traders may even pass goods between group entities for the purpose of providing liquidity to their own buyers.
But the major risk faced by any seller in these transactions is the same: what if their buyer doesn’t pay? In a volatile macroeconomic environment, a 90-day window gives ample time for a catastrophe or conflict to push a buyer into financial difficulty.
To protect against that risk, traders have long relied on trade credit insurance, where coverage – either on a portfolio or transaction-by-transaction basis – would pay out on losses due to counterparty default. Yet when the Covid-19 pandemic sparked a severe liquidity crunch, forcing numerous smaller traders into insolvency, this arrangement found itself under scrutiny.
A string trade is “not some magic wand that excuses the need for actual or constructive possession of the cargoes”.
Baldev Bhinder, Blackstone & Gold
Disputes spanned Australia, Dubai, Malaysia, Singapore, the UK and the US, involving a host of different claimants, insurers and brokers. Cases differed on the facts, but there was a common thread: disagreement over whether a string trade, carried out for financing purposes, constitutes a valid transaction under the insurance policy provided.
Many insurers argued the policies they underwrote were designed for traders taking physical control of the goods being shipped, rather than immediately selling them on. In some cases, they claimed the policyholder had not provided sufficient evidence it was actually connected to the genuine movement of goods, but had obtained copied or even forged documents.
Traders, on the other hand, maintained these structures were legitimate and widely accepted in the commodity trading market as a means of generating liquidity. They said a trade credit insurer with experience in the commodities market would find it nonsensical to insist a string trader takes physical possession of the goods. Some pointed fingers at their broker, arguing they should have placed cover that accurately reflects this business model.
Outcomes across the litany of cases varied, and many were settled before reaching trial. But as the litigation recedes, attention is turning to what the market has learned – and whether cover for these structures can now be underwritten on firmer ground.
Insurers de-risk their books
The spate of insolvencies among traders in 2020 and 2021, some of which led to the uncovering of multi-billion-dollar fraud scandals, had a profound effect on lenders’ approach to commodity finance. Some banks exited the sector altogether, while others chose to focus their attention on the larger end of the market, in what was dubbed a ‘flight to quality’.
For Richard Wulff, who took up the post of executive director of the International Credit Insurance & Surety Association (ICISA) in 2021 after nearly three decades in underwriting and is set to retire at the end of the year, there has been a similar trend among trade credit insurers.
“We hear some of our smaller members don’t want to work in commodity trading any more,” he says. “It’s a bit like the aeroplane business: the only way to become a millionaire is to start as a billionaire. There are some who don’t want anything to do with commodity trading out of Singapore, Hong Kong, Dubai and so on.
“The bigger ones tend to work more with large commodity traders, because they are as active on the margin of the commodity as they are on the financing, and not only the financing side.”
“There are insurers who want to do this business, but want to do it right, so they have changed their policy wordings.”
Richard Wulff, ICISA
Singapore-based Sumeet Malhotra, a partner at WFW and head of the law firm’s commodities and international trade practice, says there has “definitely been a change in the market”.
“There is nothing in the law that prevents string trades between parties that never take physical possession of the goods. But the underwriting market looks at structured trades as being riskier, and there’s less of an appetite to underwrite structured trading.”
Yet that appetite has not completely evaporated. As ICISA’s Wulff says, “there are insurers who want to do this business, but want to do it right, so they have changed their policy wordings”.
For insurers seeking to underwrite commodities deals but exclude financing-driven string trades, he suggests they could stipulate that the policyholder must show an intention to take possession of the goods from the outset.
“The difficulty as a credit insurer is to prove there was never an intention to take possession of the goods,” he says. “But you can probably measure the intention not to take possession of the goods. If cargoes are traded a number of times within a very short space of time, there probably was no intention.”
For example, if a participant in a string trade lacked the logistical ability or capacity to receive the cargo, that could indicate it never intended to take possession, he suggests.
“It’s tough,” he adds. “It all comes down to who the trader is. You need to know who you’re covering.”
A rethink for traders
For string traders who want assurance that they are covered if their buyer fails to pay, the construction of their insurance policy is critical.
Baldev Bhinder, managing director at Singapore law firm Blackstone & Gold, which specialises in commodity and trade finance disputes, says a string trade is “not some magic wand that excuses the need for actual or constructive possession of the cargoes”.
A typical policy starts from the premise that there will be a shipment of goods, and related payment, custody and control, he says.
“I can’t see how one can make a case for custody and control of the cargo if they never had possession of the cargo nor the original bill of lading,” he says.
In arrangements where cargoes change hands repeatedly and instantly, string traders sometimes rely on a documentary bypass system, whereby participants agree to transfer bills directly to the end of the chain.
This system occurs “in limited and documented circumstances for some commodity products, where participants have visibility and assurance that the original bills of lading will remain in the correct channel”, Bhinder says.
In that scenario, he suggests, “it would be prudent to disclose this to the underwriter” – not least to avoid accusations the transactions were fictitious.
Disclosure to underwriters “right at the outset” is a sensible strategy for traders, says WFW’s Malhotra, as it avoids potential allegations they made material misrepresentations about their business model.
“Traders have now realised the fallacy of using trade credit insurance as a trade finance product, rather than a support instrument.”
Sumeet Malhotra, WFW
“Of course, that affects pricing,” he notes. “The market is clearly reluctant to underwrite structured trades, and they’re taking steps to make sure that where they take on that risk, they price it accordingly. A mistake traders make is not issuing disclosures to be able to obtain better pricing, then finding themselves flat-footed later on.”
The disputes between traders and insurers have also shifted perception of trade credit insurance as a product, Malhotra suggests. In the past, he says, some traders viewed cover as a trade finance product, ensuring they would receive funds owed on time even if their buyer defaults.
“They realise now that these policies won’t respond unless their disclosures have been impeccable,” he says. “The underwriter is going to assess the claim, review the documents and send requests for information before they pay out. By that time, the trader may have already gone bankrupt.
“Traders have now realised the fallacy of using trade credit insurance as a trade finance product, rather than a support instrument.”
And above all, there is one underlying requirement for any string trade transaction, Malhotra adds.
“The courts have held that structured trades are genuine trades,” he says. “But if there was never a ship and never any goods, just documents and money allocated? That is clearly not a trade.”
Case study: Rhodium USA vs FCIA
Over the last five years, there has been no shortage of litigation between companies involved in string commodity trades and their trade credit insurers. But one little-covered case, filed in an Atlanta, Georgia court in early 2023, illustrates many of the tensions at the heart of the issue, going beyond whether or not a trader was required to take possession of the goods involved.
The lawsuit was brought by the liquidator of Rhodium International Trading USA, the US arm of Singapore-headquartered trader Rhodium Resources (since renamed Antanium Resources). Rhodium fell into financial difficulties in August 2020 amid a slew of buyer defaults, a loss of insurance coverage and a series of demands for payment from creditors.
In mid-2021, Rhodium submitted eight claims totalling around US$20mn to its insurer, FCIA – the credit and political risk division of Great American Insurance Company – after non-payment by several of its buyers.
Initially, the claims related to defaults by trading houses Lemarc Agromond, Longview Labuan, Longview Singapore and Agritrade, though four were later dropped, bringing the amount sought down to just under US$12mn. The four remaining trades were funded by White Oak Trade Finance.
FCIA rejected the claims, accusing Rhodium of misrepresenting its business model. In a 2024 defence filing, it said the transactions were “paper only”, and “involved solely the holding of financial instruments for trading purposes”, which its policies would not cover.
Rhodium, meanwhile, insisted it had “consistently disclosed” its role as a back-to-back buyer and seller in string commodity trades, as well as its use of copy bills of lading rather than originals.
On December 8 last year, Rhodium – acknowledging the dispute had become “bitter” – said FCIA was “disputing facts it had accepted during underwriting and insisting, post-loss, that Rhodium USA’s long-disclosed business model was now somehow uninsurable”. At that point, the arguments were reminiscent of those in several other cases.
However, a small but potentially significant shift was underway. The same day, FCIA filed a motion acknowledging that goods can be traded back-to-back in a “string or circle chain”, and that a document bypass agreement can mean participants never possess an original bill of lading.
But in Rhodium’s case, the insurer said every transaction subject to an insurance claim shared a critical feature: “In each instance, no evidence connects the shipment to Rhodium.”
For example, one of the trades involved Rhodium’s purchase of soybeans from fellow trader Quant Impex, which were then sold on to Longview Singapore. But the insurer said nothing shows that Quant Impex had the right to receive the goods being shipped in the first place.
This development could signal a shift in how cases are fought, away from arguing over whether traders should have taken possession of the goods or bills of lading, and towards whether there is sufficient evidence for their role in a string trade in the first place.
Ultimately, the issues were never determined by the court, with the two parties agreeing a confidential settlement in July this year. Neither party commented when contacted by GTR.
*This is provided only as a case study, and comments elsewhere in this article do not relate to this dispute or any of the parties involved.
