From the fallout of Russia’s war in Ukraine to the ever-changing risk appetites of commodity finance lenders, John Basquill examines five trends expected to shape the commodities market in 2023 and beyond.
European lenders eye return to commodity finance
One of the defining features of the pandemic era was the reticence of many banks – particularly in Europe – to continue financing commodity trade flows. A string of fraud scandals among trading houses, many in Singapore and Dubai, had threatened multi-billion dollar losses for bank creditors, and risk appetites were shrinking.
ABN Amro, BNP Paribas, ING Bank and Rabobank were among those that halted or scaled back commodity finance lending, while many others narrowed their focus to the larger end of the market, leaving smaller traders struggling to access vital liquidity.
Signs are emerging that this trend may start to reverse in 2023. Sanctions imposed on Russia following its invasion of Ukraine have had a profound impact on global oil and gas, metals and agri flows, driving up prices and creating an opportunity for traders and lenders to benefit from price volatility.
At the same time, the public sector is increasingly throwing its weight behind efforts to find alternative sourcing markets for key commodities.
In December, Trafigura secured a mammoth US$3bn four-year loan to support the delivery of “substantial volumes” of gas into the European grid, backed by Germany’s export credit agency. The deal could prove “massive” in underlining the strategic importance of commodity finance deals, says industry veteran Jean-François Lambert, founder and managing partner of Lambert Commodities.
“Would you have imagined in your wildest dreams, a state like Germany guaranteeing Trafigura’s signature for these kinds of amounts, and this kind of duration?” he tells GTR.
“Trafigura is mainstream, of course, but this is the German state saying to the traders that ‘we need you’.
My anticipation is that banks in Europe are going to follow the governments and go back in a big way to commodities, and that’s already taking shape. If you’re a leading bank, you can’t keep saying ‘no, we don’t like commodities’.”
There is “no way banks will stand aside and just let super-attractive deals happen”, especially where government backing is available, Lambert adds.
“It’s not just energy where this is a big focus; it’s everything related to commodities,” adds a senior source at one of Europe’s major trade and commodity finance lenders. They say financing for metals – extraction and processing as well as trade – is likely to attract support given the importance to the energy transition, and that agri flows will also be prioritised due to concerns over high prices and food insecurity.
“In the face of this situation, banks that have been much more cautious or reluctant around commodities are already coming back to the market,” the source says.
Dubai traders struggle to shed risky reputation
Despite efforts by UAE authorities to tighten financial crime controls across the country, Dubai is struggling to shed its reputation as a hotbed for high-risk activity, with European banks largely continuing to shy away from commodity traders based in the emirate.
One issue is fear of exposure to fraud. Dubai was home to two large trading houses – GP Global and Phoenix Commodities – that collapsed in 2020 amid allegations of fraud. In the former case, restructuring staff uncovered evidence of “irregular” or “fictitious” trades, while in the latter, court proceedings have brought accusations that documents were forged to raise financing. The total losses faced by creditors – many of which were European lenders – across the two cases ran into the billions of dollars.
Lenders can take steps to minimise their exposure to fraud, but that can prove an expensive failsafe for relatively low-margin trade transactions. It is often easier to cut ties completely.
“European banks are not financing commodity trading entities in the UAE,” one Dubai-based source says. Reducing the risk associated with Dubai traders, for instance by physically checking the existence of goods being pledged as security, is often considered too costly to justify the potential earnings. “They might pay for that if it’s a very high-value transaction but in general, it will not happen,” they say.
“The onboarding efforts with higher-risk clients, which these commodity traders are, are often worse than the business we can do with them,” adds a European banking source.
High compliance costs and a history of trade finance fraud are not unique to Dubai, however. Many traders that faced fraud allegations since 2020 were based in Singapore, and court cases are underway following defaults in numerous other markets, including the UK, Hong Kong, Malaysia and Australia.
What adds to Dubai traders’ issues is a perception of “shallow local knowledge” compared to long-established trade hubs such as Geneva and Singapore, where specialist commodity finance education courses are available and where junior teams are routinely trained in-house, a European source says. There is also a sense that regulators “are not as sharp and demanding” as in other markets, or that the legal system “is not as robust as in Europe or Asia”.
During 2022, these concerns were compounded by reports Russian entities had moved operations to Dubai as a means of avoiding exposure to western sanctions. That trend “does not act as a strong incentive for European bankers to build a local portfolio”, one source says. “Sanctions are a powerful deterrent.”
A lawyer specialising in international trade, also speaking on condition of anonymity, adds: “After the invasion of Russia, we saw new, smaller trading companies, a lot of them based in Dubai, popping up as off-takers to backfill the people that left the market. It’s not necessarily totally transparent, who’s behind some of these trading companies.”
Banks face sanctions pressure over ‘phantom’ vessels
Staff at financial institutions are facing growing calls to deepen their understanding of sanctions risks arising from seaborne trade. Intelligence specialists have revealed that criminal groups are deploying increasingly sophisticated techniques to move restricted goods undetected, among
them Russian-linked vessels seeking to continue transporting cargoes in the face of western sanctions.
In a December 2022 paper, seen by GTR, the Bankers Association for Finance and Trade (Baft), an influential industry association whose members include the world’s largest trade finance lenders, raised concerns that bank employees are often unfamiliar with the intricacies of maritime goods trade.
That lack of understanding “can pose challenges” if a transaction raises compliance issues, and Baft urges institutions to reassess their exposure to risk and whether more innovative mitigation techniques are needed. “Our goal is to increase awareness of the risks associated with ocean-going vessels and their potential nexus to financial crimes,” says the organisation’s senior vice-president, Scott Stevenson.
These warnings are not new to the trade finance sector. Advisories issued by sanctions regulators in the US and UK in mid-2020 instructed lenders, insurers and commodity traders to pay closer attention to vessel behaviour, company structures and potentially forged documents, noting that they could unwittingly be exposed to the illicit movement of goods and funds.
Baft says vessels carrying out illegal activity often manipulate or block transmission of their location, via on-board automatic identification systems (AIS). It also warns of “phantom shipping” – where a shipment referred to in trade documentation has not taken place in reality – and frequent changes to a vessel’s ownership, flag or management as potential indicators of wrongdoing.
According to research by Windward, a maritime analytics company headquartered in Tel Aviv, criminals are continuing to develop innovative ways of avoiding detection. Techniques include dual transmission, where a ship obtains more than one AIS transmitter, and becoming a “zombie” by adopting the identity of a vessel that has already been scrapped.
Historically, Windward says, these practices have typically been associated with illicit oil exports from Iran. Increasingly, however, there are signs that Russian entities are taking similar steps to bypass restrictions on oil exports imposed following its invasion of Ukraine. Within weeks of the outbreak of war, Windward detected dozens of occurrences per week of AIS outages from Russian oil-chemical and oil-product tankers lasting at least three hours.
Maritime intelligence firm Pole Star tells GTR its research – conducted in partnership with Blackstone Compliance – had identified over 400 vessels that were previously owned or operated by Russian companies but have recently been changed to entities in other jurisdictions, as of late 2022.
Insurers face anxious wait for clarity from the courts
As this publication goes to press, numerous commodity traders, financiers and insurers are battling through litigation over who should bear losses arising from defaults. Since 2020, many commodity traders have fallen into financial difficulties, particularly at the smaller end of the market, where liquidity has been in short supply. Faced with potential losses, many lenders have turned to their insurers for reimbursement – but in a growing number of cases, insurers are refusing to pay.
Disagreements have often arisen over whether the trades being financed are actually covered by the insurance policies in place. For instance, some insurers have sought to argue that circular or back-to-back transactions – where trades are structured primarily to obtain vital working capital – are not considered ‘genuine’ enough to be covered by trade credit insurance.
Traders, meanwhile, respond that such practices are not just legal, but commonplace across virtually all commodities and markets. They say that if a transaction is legitimate enough that a bank would be required to pay out under a letter of credit, it is also legitimate enough to be covered by insurance.
As of press time, GTR has reported five claims against Bond & Credit Company (BCC), an Australian subsidiary of Tokio Marine, that were filed between October 2021 and October 2022.
The oldest of those cases relates to an insurance policy provided by BCC to trade finance platform Marketlend, covering a supply chain finance facility to since-collapsed Singapore trader Kams. BCC argues that in order to receive payment under the policy, Marketlend must establish that it “had physical control of the goods”.
But Marketlend says BCC knew it was a financing provider rather than a trader, and underwriting a policy requiring physical control of goods amounts to “misleading or unconscionable conduct” under Australian law.
Insurance-related rulings so far have been few and far between, but in May last year, an Australian court ordered BCC to pay a claim of A$7.2mn filed by trade financier Thera Agri Capital Management, rejecting the insurer’s argument that the relevant transactions were not compliant with the terms of the policy in place. In November, a Malaysian court ruled in favour of Westford Limited against its insurer, Archipelago Insurance Limited, but the written reasons for the judgement have not been issued as of press time.
Vital Ukraine food exports remain fragile
The resilience of Ukrainian wheat, corn and sunflower oil exports from Black Sea ports is expected to have a significant effect on food security and price concerns in 2023. Since August last year, the Black Sea Grain Initiative has been hailed by the UN for lowering and stabilising food prices, benefitting lower-income countries at severe risk of food shortages.
The project has allowed hundreds of vessels to clear inspections by the initiative’s Joint Coordination Centre (JCC), which comprises representatives from Russia, Turkey, Ukraine and the UN. As of press time, more than 16.5 million tonnes of food and related products have departed the ports of Odesa, Chornomorsk and Yuzhny.
However, the arrangement remains fragile. Russia threatened to withdraw from the initiative in October last year, agreeing to a six-month renewal only in return for the lifting of restrictions on ammonia exports, and has long criticised the operation on the grounds that around 70% of shipments to date have been to EU member states, the UK and Turkey – rather than to poorer developing countries.
The original Black Sea agreement does not mention food scarcity, stating that its purpose is solely “to facilitate the safe navigation for the export of grain and related foodstuffs and fertilisers, including ammonia from the Ports of Odesa, Chornomorsk and Yuzhny”. A JCC spokesperson told GTR in December: “These are predominantly commercial shipments, whereby destinations, exports of commodities, transhipments and contractual arrangements are driven by trade dynamics.”
But fearing a collapse of the arrangement, western powers have accelerated efforts to ship grain to lower income countries, targeting Sudan, South Sudan, Somalia, Yemen, Congo, Kenya and Nigeria. A complementary ‘Grain from Ukraine’ programme has raised over US$180mn in funding to support such shipments, with the aim of facilitating 60 shipments in the first half of this year.