GTR’s annual export finance table drew together a group of global and regional banking heads to discuss surprising market trends, the regulatory treatment of the business, scope for ECA flexibility, and the role that technology can play in the world of export finance.
- Eriks Atvars, global head of natural resources (speaking at the time as global head of structured trade and export finance), UniCredit
- André Gazal, global head of export finance, Crédit Agricole CIB
- Yasser Henda, global head of export finance, BNP Paribas
- Richard Hodder, global head of export finance, HSBC
- Erik Hoffmann, global head of export and agency finance, Santander
- Yoshi Ichikawa, head of Europe, structured export finance, Standard Chartered
- Jonathan Joseph-Horne, global co-head of structured export finance, SMBC (chair)
- James Pumphrey, director and head of structured trade and export finance UK, Deutsche Bank
- Richard Wilkins, executive director, export finance, JP Morgan
Joseph-Horne: What have you found surprising about the export finance market over the past 12 months?
Gazal: The return of the US Export-Import Bank (US Exim). It was interesting to see it have its full board restored in May following more than three years without a quorum. Six months prior, there was no solution in sight, yet, it happened very quickly. That is quite positive for US exporters.
Ichikawa: In practice though, it would depend on how many of the staff who can do efficient deal execution are still at US Exim. The body of experience could have unfortunately been eroded. During the time that they were inactive, the world has moved on. A lot has happened, such as more liberalisation of content requirements and so forth.
Joseph-Horne: In some respects, what has been surprising about the market has been the way that it has adapted to the loss of a major global export credit agency (ECA). Volumes ended up remaining reasonably static and there has just been a reshuffling of the pack.
Pumphrey: From the liquidity perspective, the big US exporters have spent a lot of time and effort trying to re-source. I don’t see them going back into the US as a first priority given questions over US Exim’s commitment, but also because they have made certain commitments, for example to UK Export Finance or to Switzerland’s SERV, that they need to abide by.
Gazal: US Exim will likely become one of the options for the largest exporters – as most can switch sourcing. Smaller businesses are the ones which cannot source elsewhere and have suffered the most from US Exim’s absence. But it is true that the market at large has survived without US Exim in terms of the global financing picture.
Going back to the point that Exim has lost a lot of expertise, it is true that many key people have left the bank. It will have to retool in order to address needs and rebuild trust.
Atvars: In terms of the wider market, this time last year we were talking about how slowly things were going, and at the end of the year we finished very strongly. It now feels as if we have fallen off a cliff again and are back to where we were about a year ago.
Hodder: November/December last year was just crazy – I have never seen anything like it.
Wilkins: It is part of that tendency towards larger projects and there being a rush to try and get them across the line before the end of the year. There are fewer middle-sized deals going on.
Henda: If you look at the published figures on US$500mn-plus deals last year, the number of deals of that size doubled. There is that phenomenon of jumbo deals coming back.
Hoffmann: Last year was a strong year in Asia at US$110bn-worth of deals done, compared to around US$85bn the year before.
Hodder: Yes, what was surprising was the volumes last year in totality, and the number of players in the market. All the big arranging banks are there, but the number of second-tier players just continues to grow with new people, new appetite, and new institutional investors looking at the product. It is changing the whole liquidity dynamic of the markets. Not always to the benefit of the people sitting around this table, but we still have a role to play in the arranging side of it. The options on the funding side are so diverse now. It makes it difficult to judge what people are going to do, because they have so many tools in their toolbox to deploy on each and every transaction.
Joseph-Horne: Is that trend here to stay?
Pumphrey: Until the next sovereign crisis, I would say.
Hoffman: You need to have a portfolio approach in terms of revenues to entertain large teams around the globe.
Pumphrey: The ECAs are happy for other people to come in to fund, but they rely on experienced ECA arranging banks to structure the deals and understand the credit risks properly.
Hodder: So, it will be a bigger pie, but we’re sharing it with more people.
Wilkins: If the arranging banks go out and source funding from other places due to the competitiveness in the market, then there is going to clearly be a lot more supply in the market, which is great for borrowers.
Hodder: That is the ultimate question. What will happen in the next crisis? During the last crisis, the Middle East still wanted to build their projects, and commodity prices took a while before they went down, so we still saw our borrowers implementing their projects. I question now if there was another crisis today, would we still see the same throughput on the infrastructure side?
Joseph-Horne: Something which I think is quite interesting is the well-publicised trade finance gap of US$1.5tn, while at the same time we have high levels of activity and lender liquidity in the export finance world. I’m therefore wondering if that leads us into a discussion on whether the export finance product and the parameters around the product are fit for their purpose in a broad sense? If you have high lender liquidity and you have a trade finance gap, it feels like something isn’t quite working. The product isn’t quite addressing its market. Is that something that you would recognise?
Henda: Yes. It is around the development of products, and the role of development finance institutions (DFIs) and multilaterals in bridging part of the gap and co-financing infrastructure projects with private investors. And ultimately, should our business be that of ECA-backed banks or more widely export financing banks?
Wilkins: Some banks feel that the DFIs are crowding them out, but there is also a question of how narrowly commercial banks define their roles as part of this, when you consider there is a trade finance gap.
Joseph-Horne: That leads on to the discussion of what role parties like the OECD and the International Working Group on Export Credits (IWG) must play as well.
Hoffmann: It’s all a competition of financing alternatives, and this is only one market segment. Banks, DFIs, ECAs – we are all fighting within that single segment. Effectively, we are fighting bonds, syndicated loans, and even uncovered commercial project finance structures. So, I believe there is still huge liquidity to be entertained, and I don’t really see that the private side – the biggest pocket of all – is yet ready to go there, especially in a situation where we may face another crisis.
Joseph-Horne: Are there any other areas that you have found surprising over the past 12 to 18 months?
Ichikawa: We noticed that in 2018 cruise ships were extremely strong, and now, in 2019, it looks like shipyards are full of healthy backlogs. The question is, how long will the trend last? It could be one big wave like it was with telecom in the early 2000s and we may slowly see a slowdown in demand for the new cruise ships.
Henda: To which I will add the point around sustainability. Sustainability is leading to the sector being challenged. Individual companies and ways of doing business are being challenged with issues such as emissions – I would not minimise that impact on the future of the sector.
Wilkins: In many ways, everything is consumer-driven, and we see these waves around advances in technology. Whether that is because cruise ships become more appealing for a family vacation as they become floating entertainment complexes, or because renewables are offering better value and efficiency at scale and so on and so forth. It doesn’t matter what the sector is, if there is something interesting and new that is going to improve things for the consumer, then capex gets spent.
Atvars: In the cruise ship sector, the last 10 years have been very consistent with a sustained demand growth of 4 to 6% per annum. It is only limited by the supply of the ships. But at the same time, the industry recognises that it must innovate to offer alternative itineraries, such as exploration, experiences or enhancements through technology to keep people coming back, and there are a lot of markets that are underdeveloped – Asia, for example. In time, that could be a source of huge demand, we are already seeing some newcomers looking to target that, in fact.
Telecoms is another sector of interest. At last year’s roundtable, we talked about the dawn of 5G and where all the capex is going to come from. The feeling I get is that it is not going to come all at once, because the capex will be spent as the revenues are generated, and broad based or retail revenues in 5G are not going to come anytime soon. We are still a few years out because at the moment I think we are at the peak of revenues that 4G can deliver. So, I question whether telecoms is going to drive our financing strongly in the near-term. Medium-term, I remain bullish, but I am not as enthusiastic right now.
Pumphrey: The other thing with telecoms is that a lot of the operators have yet to work out how to monetise 5G, so that is impinging upon their ability to invest. And second, what we are seeing is significant demand for ECA-supported long-term supplier credit, rather than necessarily buyer credit, because some of the companies we are looking at are quite highly leveraged and want to get the ‘debt’ off their balance sheets. So I believe there could be a reduction in large value telecom deals over the next 12 to 18 months.
Joseph-Horne: Let’s discuss the regulatory treatment of export finance. How well understood do you feel this topic is by all relevant parties? Regulation does not just impact the banks; it also impacts the exporters, the ECAs and, obviously, the borrowers. It is important that the debate and the understanding of various issues in the market is broadened out to all those stakeholders.
Henda: Legislation after legislation, regulation after regulation, people say, ‘sorry, this is an unintended consequence’ about the adverse impact on ECA-backed business. If that happened once or twice, you could understand it. But it has become recurrent, and if we don’t get to the roots of the issue with the authorities supervising the ECAs, if we can’t get an understanding of how important this product is, how valuable it is for trade and how valuable it is for economies and countries, that will continue. We will continue having to fight against legislation that would have been approved, always after the event. For me, this is the part that is difficult to deal with. How do we get upstream in the process of drafting and getting these regulations voted or advocated for? It continues to hit our business, and almost always in a counterintuitive way.
Pumphrey: I feel that one of the weaknesses is that the ECAs don’t understand that. What we are talking about here is either the European Union or the governments of the European Union, so you have this right hand, left hand approach, where the right hand is doing something with the unintended consequence on the left hand. But, if you get the ECAs to bang the drum in Brussels – or wherever – making it a priority at the beginning, maybe that would be helpful.
Hodder: That earlier stage approach is key. For example, as we saw on the leverage ratio, many of the ECAs woke up at the last minute. Those that were going to be impacted by it only got around the table right at the end. What the leverage ratio does show is that, where there is pressure from the banks, the situation can improve. We can apply pressure and make changes and get the right people to lobby accordingly, but the ECAs, particularly those that were going to be most impacted by it, weren’t at the table until five minutes to midnight. They need to be spending more time in terms of understanding the regulatory regime, because it is central to their business model as well. If they get caught out, the non-performing loan issue is an ECA issue as well. We have to deal with it, but it will affect their business models just as much as it affects ours, and I don’t think they have really appreciated that.
Gazal: The thing is, they are not equipped to deal with it. They don’t follow the evolution of regulation the same way banks do, otherwise they would have anticipated this.
Hoffmann: I would go one step further and say that the ECAs effectively are only the agents of their respective ministry of finance and ministry of economy. So, if they do not get an ear within their ministries and make them move, in the end they effectively need to reconsider their role in the process.
Gazal: The ECAs often aren’t aware early on and don’t act unless they are directly impacted. But they need to anticipate these problems because they will eventually be impacted through the banks. There is an education process that has to take place through the Berne Union and the OECD to sensitise ECAs to the fact that regulation, which other arms of the governments that they are part of are fully involved in drafting and sanctioning, requires communication at that ministerial level, so that they are in the loop of what is going on early on in the process. So much more can be achieved through a collaborative effort between all stakeholders: banks, ECAs and exporters.
Hodder: There is lobbying, but by then, the rules have already been drafted and are entrenched.
Pumphrey: Surely it is on the banks? The ECAs won’t pick it up, absolutely, but the banks can pick it up at the early stage. There are the banking groups that we all know about, but there is also a direct approach to all the ECAs to let them know that it is coming and to urge them to get involved.
Joseph-Horne: There is considerable work happening on that level and it is improving. The Berne Union-ICC interactions have helped tremendously in raising the profile of discussion and spreading overall awareness, and we have seen an improved level of common understanding coming out of that. It is a journey.
Wilkins: But it likely needs a bit of a model change because most of the ECAs probably don’t view themselves as political entities. In mainland Europe at least, ECA business has often been outsourced to private agencies, which means that what is going on at the government level is actually just outside the remit of some agencies. Are they there only to support the commercial business of exporting or should they be supporting a wider political agenda?
Joseph-Horne: Personally, I’ve seen a strong willingness to engage and the desire to understand more from the agencies. At a more general level this comes back to the historic perception that bank regulation is an issue for banks, but that is just simply not the case.
Pumphrey: Look what we saw from the PRA. When the PRA issued a consultation document, UKEF was in there like a shot. Although they had no idea it was coming, when they were told, they reacted.
Joseph-Horne: As did exporters, as did the insurance market. That was a very interesting case study of the collective industry coming together to come up with a co-ordinated response to something that was quite unexpected.
Hodder: The next one in the pipeline is the battle for consultation on sovereign exposure, which is something that underpins everything, so the lobbying that needs to be done across all the stakeholders is colossal.
Joseph-Horne: Moving on, what are your thoughts around ECA flexibility and whether there is scope for more of it? How would that fit in with the OECD Consensus, and the consultation that is taking place there and the work of the IWG? There tends to be a universal acceptance that more flexibility is good – and required – but I think that the issue becomes where you place the frame around this.
Wilkins: The important thing about that frame is that, because there are countries that lie outside of it, many European exporters feel that they don’t have a level playing field. There is one game happening on this pitch and another one happening on a different pitch outside and they are playing in the wrong game, so it is very clear that there needs to be changes.
Joseph-Horne: At the OECD level, yes. I think the IWG is looking to address that in a different way by making their frame inclusive of parties that are outside the OECD.
Atvars: Today, a large majority of all the deals done, if tested critically against the OECD arrangements, don‘t fulfil them, and you have the smaller ECAs that are getting very aggressive with their terms and the share of national content that will qualify them for a full cover package. There is a common view that it must be revised and that you can’t just start rewording individual clauses but with a clean slate. The question is, who is going to make that push?
Wilkins: And the consequence, as you say, is that ECAs are being more flexible in trying to find ways of playing around the edges.
Atvars: When the OECD Arrangement came into existence 40-odd years ago, typical ECA borrowers were all sovereigns. Today, these represent less than half. So, the end user requires more flexibility beyond, for example, semi-annual repayments and fixed tenors.
Hoffmann: Who is the end beneficiary of the OECD Consensus? It is the individual ministries of finance, which limit their subsidies in order to not have this race to the bottom. What is in our, the banks’, interest? If I can imagine living without an OECD Consensus or the ECAs doing whatever they want, this opens up tremendous business opportunities for advisors or structuring parties like us. The more difficult the environment is, the better it is for us. So, this is where the governments need to make up their minds. Either they come up with a harmonised approach by setting standards, or they let everything go wild, which then opens up that field to banks or advisors to explain that to the borrowers.
Ichikawa: The opposite argument is that a certain degree of predictability may be needed. ECAs’ flexible approaches, if too wide and ambiguous, would make it difficult for us to advise clients efficiently and structure transactions.
Atvars: This is a very important point, because we so often are asked at a very early stage to get an indication of willingness to finance, but if we don‘t know what they are going to get at the end of the day, how can we do that? We don’t have a frame that we can work off.
Hodder: Is the IWG ever going to get to the point where they can agree something which is as comprehensive as the detail that is in the OECD rules, which have evolved over 40 years? Probably not. So, does it just become a much looser framework, which sets broad parameters in which the agencies can work? This remains to be seen. There is a lot of infighting among the IWG in terms of getting a consensus.
Joseph-Horne: This leads on to the next topic, direct lending, which at the moment is provided by some, but not all, ECAs. Then as a subset of that, the CIRR product, and what the future of that might be. What are your thoughts on direct lending, how relevant it is and how well understood it is outside the banking arena? How well understood is it by borrowers in particular, and is there still an important role to be played by CIRR?
Gazal: The two are linked, because the direct lenders are the ones who are providing CIRR flat in most cases. Some ECAs are moving away from offering CIRR flat or are adding a premium. Rising rates are going to have a significant budget impact on ECAs because of the CIRR construct, the fact it’s based on historical rates and it is not reflective of the true cost of hedging. ECAs are already taking significant risk during the delivery or construction period by providing a CIRR today which only takes the repayment period into account. In the end, it depends on what level of subsidies countries want to assume, and if they consider the cost of CIRR worth the competitive advantage. Borrowers are aware of the product but not always of the pitfalls. They have used it less in the current low interest environment but will take advantage of whatever is out there, particularly if beneficial to them. I think CIRR is a very useful product which must be maintained, but it needs revamping.
Wilkins: There are two aspects to consider. One is, as you mentioned, in an upward rates environment, CIRRs are quite attractive because they are a ‘free’ interest rate hedge. But at the moment, we are not in an upward rates environment. In fact, if anything, we are already back in a downward environment. So, CIRR use and therefore direct lending attractiveness is down unless, for example, you’re an emerging market sovereign with a budget to manage and limited capacity to hedge. The other aspect is that borrowers are becoming more aware of the potential costs of CIRR and it not being ‘free’. It can impose prepayment losses if they don’t draw the facility in full, so the slightly more sophisticated borrowers are saying, ‘are there benefits here, or should we wait’? Particularly if you’ve got a flat interest rate environment, they will draw on floating and when it’s fully drawn, they will just do a swap.
Slightly off on a tangent, if you are looking at the non-OECD ECAs, and you’re looking at emerging market ECAs which are increasingly trying to support exports, direct lending is pretty much the main route they have, because their credit rating doesn’t work very well as a risk mitigant for international banks. As emerging markets start exporting more they will need to find ways to actually provide funding while they lack the credit enhancement themselves.
Henda: CIRR for emerging markets and for sovereigns in particular remains a very positive product in a very positive form that ECAs and other countries can extend. Some counterparties would live with an upward adjusted CIRR and would still highly value the availability of that stability of cash flows. That is also the case for commercial banks: their clean exposure attached to market hedging is available only from some ratings and risk profiles. You cannot extend a long-term clean exposure attached to an ECA facility. It is also the rules of eligibility of CIRR in addition to its level that the ECAs should be looking at. Providing acceptable cover to market hedgings could also be a solution. The most important thing for some of the sovereigns is still to keep that flexibility.
Ichikawa: From my perspective, CIRR is a decades-long regime and any attempt to change it would be politically complicated. When I worked for the OECD Secretariat, there were exercises to understand CIRR practice, and we found different interpretations of the current regime among OECD countries. So long as the rule is simple and clear, then the market adapts to it.
Gazal: Any reform to the CIRR must be something transparent, straightforward and simple, because if you overcomplicate it, it becomes very difficult to explain and people will be reluctant to use it. So, it must be done right in the first place. The problem is that ECAs have yet to agree between themselves on how to structure it. Also, the level of subsidy for each country offering CIRR differs depending on their competitive situation.
Atvars: Exactly. We talked about this before. It is not a question of lack of liquidity. Direct lending and so forth is not a necessity per se, but it is actually in some of these countries’ best interests to keep it for that reason. I would flip it around. One of the things I would love to see, and we have talked about this a lot, is more liquid secondary markets. We know that there are players interested in being more active in this field, but with more direct lending, that creates a less liquid alternative to more efficient capital markets development.
Joseph-Horne: Onto our final topic. Fintech – and blockchain technology specifically – is something that the trade finance market has embraced and is investing a lot of time, money, and effort into, but the reality is that it is not something that is currently on the radar of the export finance market. What are your thoughts on the role, if any, that technology might play in the world of export finance?
Atvars: We have talked about standardisation, and the more standardised the market is, the more you can digitise or automate it. If you go down the route of more flexibility, that makes it more difficult to automate. So, it depends what path the industry and technological developments take.
Henda: There are areas where we could see some form of standardisation, certainly, such as on smaller, repetitive loans. You can also standardise the processes and the middle office type of activities. But it is difficult for the jumbo deals, and for multiple tranches and sources.
Joseph-Horne: We talk continually about the SME sector and the fact that there’s a strong need for our product in that sector, but the products as they currently exist and the way that they are delivered simply don’t address that need. I do wonder therefore if there is an important role that fintech, blockchain, and artificial intelligence can play in automating that end of the market and filling this need.
Hodder: It comes down to a question of scale. At the end of the day, how many deals are we all doing in the medium and long-term space? 40, 50, 60 deals a year? The investment that you need to make on a wider trade platform which is dealing with thousands of transactions each day becomes very easy to scale, and you get your payback from that. It is the investment that you need to make that is holding us back. My point of view is that we will end up piggybacking on systems that are generated by other parts of the bank and that can then be fed into certain elements of the process, whether it is disbursements, or the mechanics of the back-office functions.
Pumphrey: Also, in terms of some of the generic due diligence around KYC, you could have some sort of platform there. But the actual deals themselves, the big, multisource, very structured deals, are not going to be digitised.
Wilkins: Disintermediation is possible, but the real question is around the ECAs’ approach to risk. If ECAs are willing to approach risk in a different way – for example, analysing it in a more portfolio-based fashion, more ‘this is how much tolerance we’ve got’ and cover is standardised, the documentation process could be simplified.
Hodder: What is fun about export finance is that it is a people business: we need to have conversations and understand cultural differences to get things over the line.
Gazal: We will all benefit from blockchain and technology in the processing of some of the documentation that goes on behind the scenes, and artificial intelligence will also probably have a role to play. However, I don’t think export finance transactions can be completely automated. It is a bespoke business.
Joseph-Horne: I think in a few years we may be surprised. There may be segments of our market which ideally suit that sort of approach.
Gazal: Yes, I can see that for simple, small ticket, repetitive SME transactions. Or you could move away completely from the export finance solution and use trade products, making it much easier to process through blockchain technology.
Hodder: There are too many variables that our borrowers need help with.
Pumphrey: If you just look at the ECA LMA template, it is 250+ footnotes, just to standardise a loan agreement. That just shows the complexity of the product.