From its origins in US sub-prime markets, the credit turmoil in the capital markets is beginning to affect confidence and activity levels across the financial spectrum. But what is a ‘crisis’ for some, could prove to be an opportune moment for forfaiters. Rebecca Spong assesses the market.  

way from the leisurely Cannes seafront, the setting for this year’s annual forfaiting meeting, the global markets have been going through a tumultuous time, with the effects of sub-prime mortgage defaults reverberating throughout the market. Caution has returned to the markets, with banks ceasing to lend to each other and margins being pushed back up.

From the perspective of a forfaiter, this credit crunch could ultimately prove to be to their benefit.

GTR caught up with some of this year’s IFA delegates once back at their desks, where they are contemplating the best course of action given the recent shifts in the market.

Geoff Sharp, managing director, head of forfaiting, Western Hemisphere, at HSBC remarks: “Obviously any lack of confidence in the commercial paper market will have some form of knock-on effect on trade finance, which can be seen in re-pricing of emerging markets financial institutions’s buyer credit costs and tightening of credit or loan covenants.

“Although many emerging market financial institutions have little or no exposure to US sub-prime mortgage lending problems either directly and/or via relative financing conduits, the cost of trade-related borrowing must increase in line with overall market conditions. Of course, this may be less prevalent for trade finance institutions with a large or strong depositor base less reliant upon liquidity of inter-bank markets,” he adds.

Whatever the size of the impact on trade finance pricing, it would be natural to expect that anything pushing margins back up would be a welcome development.

Unsteady hit

But it is not necessarily that simple, as Edmondo de Picciotto, general manager at Intesa Soditic Trade Finance, suggests: “Everyone has been talking about how the market needed a hit in order to push pricing up. We have now had this hit and now we are all too wary about the market’s stability to lend.”

He adds: “There is potential for the forfaiting market to capitalise on this liquidity squeeze. With banks looking to limit the level of risk on their books, they might look to the forfaiting market to overload some of this risk. This is where the smaller players often have the advantage. Unlike the larger institutions, with strict credit committees and blanket bans on lending, the smaller lender can be more flexible with its lending limits.

“If you are brave then you could make a lot of money due to the rise in pricing, but you have to be brave and willing to take the risk which at the moment is more a price volatility risk then a real credit risk I think,” he concludes.

Simon Lay, managing director at London Forfaiting Company (LFC), similarly observes: “Certainly some institutions have bolted down the hatches until the ‘storm’s passes but this in itself offers a unique opportunity for participants who remain active to re-position themselves with their clients as being able to continue to deliver a product or service, even when market conditions are tough.

“Borrowers in some markets such as Kazakhstan, who had previously preferred to arrange wholesale funding from the loan and capital markets, have once again returned to the forfaiting market to supplement those facilities which are becoming more difficult to access.”

Marina Attawar, managing director at DF Deutsche Forfait, also adds: “There has been a small increase in margins in areas such as Russia and Kazakhstan, but in fact the situation may have a positive effect on our forfaiting business. Banks have stopped lending to each other, but they have become more interested in buying transactions.”

Similar sentiments were expressed by SMBC’s legal counsel Sean Edwards: “Liquidity has faltered a bit but some are seeing this period as one of opportunity. World trade has not so far suffered, and this is the fundamental motor for the forfaiting market, although it is aligning itself ever closer to the capital markets.”

Emerging market momentum

Despite a global squeeze on liquidity, international trade has not slowed. Much market commentary puts this down to the growing strength of emerging markets and their increasing independence from fluctuations in the western market. Markets in Brazil, Russia, India and China (Brics) in particular are less vulnerable to the effects of liquidity squeezes in the US or Europe due in part to the continued high demand for commodities from this markets.

For instance, China has now become a larger export market for Asia than the US.  A recent report issued by Goldman Sachs has argued that the Brics are key to the global decoupling from the US economy, as the consumer demand from the Brics during the first half of 2007 was in excess of that from US consumers.

In addition to strong international trade flows, the nature of the trade finance market has also made it more resilient to market fluctuations, as Sharp from HSBC explains: “There is a relatively sound argument that recent market developments reflect an overdue pricing correction, although the trade finance market tends not to overshoot like other capital markets due to the inherent safety or security held for underlying trade flows. Certainly we have not yet seen any significant withdrawal of credit appetite within the forfaiting market for trade deals to date.”

There is a general feeling that the credit crunch and the global repricing of risk was almost an inevitability, and will help introduce a more cautious assessment of risk in the future, with greater differentiation between risks beginning to emerge. In the short term at the very least, forfaiters generally welcome this upswing in pricing.

However, Lay clarifies this positive stance: “I generally welcome the changes in market conditions. Although longer-term liquidity will be needed in order to stimulate the trading activity which characterises most forfaiters’s activities, at the moment it is creating good and profitable opportunities for those institutions who still have limits available to capitalise on the better spreads available.”

He adds: “Initially higher margins were more evident only in the secondary market, with some intuitions desperate to sell down positions or show turnover on assets, but recently we have seen such pricing changes even in the primary markets, where origination is the key for the growth of the business.”


Going public at Deutsche Forfait

One of the success stories of the forfaiting market this year is DF Deutsche Forfait’s (DFAG) IPO made in May this year.

Speaking to GTR after the conference, Marina Attawar comments: “The company’s IPO is an exciting, yet very practical, step toward DF’s profitable growth. Increased equity and additional credit lines, products of May’s IPO, have already begun to positively affect business – we are able to comfortably increase forfaiting volume, expanding business in sectors that have proven to be profitable for us as well as venture into new, unchartered forfaiting territory.”

Through its IPO, 30% of the group’s capital was floated, and the forfaiting firm managed to increase its equity capital by €13.5mn, minus costs.

At the end of August, DFAG announced its first half results, revealing that its forfaiting portfolio increased to €460mn during the first six months of 2007 compared to €456mn in the same period last year. Gross result including financial results reached €6.5mn for the first half of 2007, an increase of 21% compared to the same period the previous year.

Since its launch in 2000, DFAG has proved profitable, but it was in 2006 that the institution saw a real turnaround in fortunes having secured an approximate 70% increase to its pre-tax gross result.

Commenting on the half year results, Jochen Franke, CFO at DFAG says: “We are very satisfied with the business development in the first half of 2007. Our consolidated profit after six months has already met 46% of our forecasted target of €4.8mn for the year as a whole. Taking into consideration the positive effects of the additional equity and the traditional strong fourth quarter, we are confident that we will meet our earning targets.”