Continuously declining volumes and pressure on pricing are putting the export finance community in a difficult situation. GTR gathered a group of export finance heads to discuss the future of the industry.
- Yasser Henda, global head of export finance, BNP Paribas (moderator, upon invitation by GTR)
- André Gazal, global head of export finance, Crédit Agricole CIB
- Rodolphe de Lambertye, head of strategy and business development, export and agency finance, Santander
- Xavier-Marie Robert, head of export finance, funding, Americas, Asia and sectors, Société Générale
- Jonathan Joseph-Horne, global co-ordinator and Emea head for export and agency finance, SMBCE
- Ralph Lerch, global head of export finance, Commerzbank
- Faruq Muhammad, head of structured export finance for Europe, Middle East and Africa, Standard Chartered Bank
- David Peyroux, head of global trade finance, BBVA France
- Dalila Arab, head of business development and portfolio management, BNP Paribas
Henda: The first topic comes almost naturally: our market. There is a perception, not shared on a unanimous basis, that the market is slow. When I say the market is ‘slow’, it is a number of markets, countries and segments. The first question is to figure out your feel of the market for 2015 and what your view is, moving from 2015 into a prospective view for 2016.
What is your view on the pipeline?
Joseph-Horne: We have seen greater diversity in deals in 2015 and general trends in terms of geographies are more difficult to identify than trends in terms of sectors. For example, we see the obvious slowdown in the oil and gas sector but also, the pick-up in sectors such as infrastructure, transportation and, particularly, shipping.
Deal volume is definitely trending downwards. We have the combined effect of the slowdown in growth in China – it is all relative, but it is still a slowdown – and the current oil price. Theory would dictate that the oil price drop is a zero-sum game over the medium term, which means that for every loser from the drop in the oil price there should be a winner. However, while it should have a relatively neutral impact in the medium and long term, that shift in market activity levels away from oil producers towards consumers will take quite a long time to work through the market as some transactions and projects are delayed and others come on stream.
As a result of that time-lag, we are at a natural dip in activity levels. I am optimistic that export finance activity will pick up as these structural forces readjust – but we are some way away from that, and in the short term I see a continuation of the trends from last year. My feeling is that these trends will continue throughout the coming year and then we will see a slow, gradual pick-up in overall export finance volumes as the structural realignment between sectors works through the global economy.
Lerch: I am quite okay with our export finance results of last year, because historically we have not been that active in project finance. I believe that the major demand for funding in the project finance domain is missing, and this will not substantially change this year.
Therefore, it might be wise to focus on industry-driven projects in various sectors. We see significantly increasing demand from industrial sectors active in machinery production.
Also, the number of countries demanding export finance is increasing, for example in Africa and LatAm. I also see some more or steady demand – even if not always in our hands – because business is pretty much driven by margins and alternatives. Therefore, from my perspective, it is difficult to predict exact volumes that are coming up.
In general, my outlook for 2016 is positive – if you cover not only project finance but are active in various segments of export finance.
de Lambertye: When it comes to Santander, we also share the view of Commerzbank. We are quite optimistic regarding the year to come. However, we acknowledge that volumes are going down significantly year after year. We still believe that the current oil and gas effect is creating new opportunities – or at least that is the view we are taking on it.
In terms of potential sectors and geographies, we are seeing new markets such as Africa going up, which used to be quite small in terms of volume. There are some significant transactions going forward in the south of the continent. The Middle East is still an important market; it drove 25% of the volume last year. There are also some niche markets in Latin America for the smaller countries, such as Peru or Colombia. They are launching some important infrastructure projects; we are seeing those as real opportunities.
One sector that was not mentioned is defence, which is moving up quite significantly. There are a number of banks supporting this sector. We are seeing infrastructure as well as transportation projects in most of the geographies that I have mentioned.
Peyroux: BBVA is not present in all segments of export finance – for instance, we are not in shipping or aeronautics – so we do not have a comprehensive view, but we see that in our footprint, which is basically Latin America, the main countries of interest, where we see most projects and opportunities these days, are Mexico, Colombia and, to a lesser extent, Peru and Chile.
As you just said, low commodity prices may constitute an opportunity for export finance in some countries and a threat in others when the impact of those low commodity prices affects the country risk too negatively. The fact is that liquidity is becoming scarcer in emerging countries in general and in Latin America in particular. That may lead local buyers to look for external financing. For instance, Latin American buyers used to finance themselves with US banks, and I think this source of financing may become more difficult and generate more opportunities for export finance. ECAs may fill the gap of those liquidity sources, which are becoming scarcer.
In terms of sectors we see infrastructure and transport as the main drivers. In terms of geography, we are also following this projection in Asia. The countries that are more active these days are Indonesia and, to a lesser extent, Sri Lanka, where we also see projects.
Robert: As far as Société Générale is concerned, we saw a decrease in ECA volume over the last two years compared to the peak, which, if my memory serves correctly, was in 2013. Last year was a good year, despite this decrease in volume. We have been driven by transactions, in particular, in the field of defence. Last year, our portfolio was not filled by project finance deals. That was one of the main characteristics.
I would say that the current context should still lead to a decrease of ECA volume. It is difficult to predict to what extent, but we anticipate that in 2016 we are still going to see a slight decrease, unfortunately. At the same time, it is true that the oil price drop should lead a certain number of jurisdictions to look at financing solutions. You mentioned the Middle East and this is clearly the case. We see a revival of export finance over there. Africa is still a booming continent, and there is a rebalancing from west to east there. In Latin America, there are needs in infrastructure. In Asia, we should see a revival of project finance, for instance in Indonesia, particularly in power.
Gazal: At Crédit Agricole, we expect 2016 to be a bit slower than 2015. If you look at 2015, it was quite a busy year thanks to some megaprojects, particularly in the defence and power sectors. That obviously helped, but there were also smaller transactions. In 2016, the pipeline is a little bit more unpredictable for the second half of the year, due to the macro-economic downturn: Russia basically has much reduced activity because of sanctions, and Brazil is pretty much at a standstill because of the economic situation there. The economic slowdown in China is having an effect in neighbouring countries in Asia but also on some African countries which have become dependent on commodity trading with China. South Africa, Sub-Saharan and West Africa are experiencing some difficulties. We are seeing some projects being put on the backburner. This is a big chunk of ECA business not happening at the same rhythm. It is true that Egypt and the rest of the Middle East are showing strong signs of activity and some oil-exporting countries may present opportunities because they are seeing a significant drop in their revenues and can no longer afford to pay cash for their investments. Time will tell if these opportunities will materialise and be sustained.
When you look at this in the context of the number of deals down the road, I expect we are going to go through a lull before activity picks up again. The timing is unpredictable: it could take a short time or it could be a year or longer.
Henda: From the point of view of BNP Paribas, the question is also about sector versus country versus geography. In our view, it is combination of all three parameters. With the slowdown in economic growth, we see the direct connection to the energy sector, but we also see the weaknesses of emerging countries, which may or may not be connected directly to the oil prices.
The general economic slowdown is affecting a number of countries. You mentioned West Africa. We have seen some calls made to the IMF. Do those calls create nervousness? Not necessarily. We are convinced that those are generally done on an anticipatory basis, with countries anticipating potential difficulties and engaging in sound and reasonable discussions with the IMF, which was not the case in past decades. Back then, you only went to the IMF when things became critical. This is a more positive trend in terms of risk analysis and the way we look at opportunities in emerging markets.
Oil-exporting countries will need to balance their budgets, depending on where their breakeven prices were set initially. We see a number of countries widening from debt capital markets to syndicated loans for very significant amounts and going into the ECA market. Sometimes they are only testing to figure out where they could be putting their feet.
Also, importing countries are getting a little bit more relaxed – which means revisiting their investment plans. They can do a bit more and combine equity and debt or do transactions that were perhaps put on the shelf and look at sectors that have never been put to the test.
Turkey has not been mentioned. Despite all of the unfortunate events happening almost everywhere in the Middle East, the potential for Turkey will remain good, I believe. There is also Egypt, but in our view there will be a sector shift in Egypt.
In terms of 2015 versus 2016, 2015 was a good year. We had defence and we had a number of transactions running from 2014. There are also some transactions that had origination in 2015 carrying over into 2016 H1 and probably Q3. For us, the predictability of the pipeline is more looking at renewing it with the end of 2016 and even 2017 in mind. That is probably where this business has its advantages: it gives us time to renew the pipeline over a number of quarters. That is where we may see the low volumes potentially running into early 2017.
All it will take is a couple of jumbo deals. If energy deals in Europe take place, if some of the jumbo deals in Africa or in the Middle East take place, those would be game changers. Yes, we are optimistic, because there are some signals for some very specific jumbo transactions. The shipping market is also good, despite the weak bulk and container ship markets. At some point in time, several years ago, we were saying that it was about counter-cyclical products and things slightly changed since. To a certain extent, we are in the counter-cyclicality part of the ECA market.
Muhammad: Whilst ECA seems to be a common part of the toolbox for almost every financing or for every corporate as well, it still remains counter-cyclical to some extent. We are into one of those cycles right now. It is good for the ECA guys and not so good for the non-ECA guys.
I think we are also looking, at least for ECA business, for 2016 to be a better year than 2015. That is more because much of 2015 was also spent wondering about oil prices. There were too many concerns about the way it was going to be. People were holding back. Now, there is a bit of a consensus about where oil prices are going to be. A lot of the governments that have taken their foot off the pedal and cut their costs significantly have run their budget numbers at much lower oil prices, particularly in Sub-Saharan Africa; the revised priority projects will continue in 2016. I think they are still suffering from trying to find the right balance on the side of foreign exchange controls.
However, those are the things we hope will stabilise a bit during this year. As you are all aware, the project spreads in Sub-Saharan African markets are bigger than in other markets. We take the view that Sub-Saharan Africa is a market where there will be pockets where there will certainly be more utilisation on the ECA side than before.
Outside of that, Bangladesh and Pakistan are now opening up a lot – Pakistan in particular. This is not so much on the OECD ECA side, but the China-Pakistan Economic Corridor is creating significant opportunities on the Chinese side of things that we are looking at. While the primary EPCs will be Chinese, there will be a role for the European ECAs to play through sub-contractors/suppliers. In the Indian space, Indian borrowers are also now looking at ECAs again. That always remains a difficult market. In Southeast Asia, I have the view that things will probably continue as they are in the markets where there is a lot of liquidity – ie, in the Philippines and Thailand, etc. They are not going to be ECA markets in the near future, but there might be one or two transactions coming through.
On the large project financing side, a lot of these were held up in 2015. Some of them might move forward this year.
Henda: You mentioned spreads. We see some mixed, if not conflicting, signals on the back of abundant liquidity. Also, spread and degradation of risk are interlinked topics. What is your view for 2016?
Muhammad: Banks have always commanded a higher price in Africa due to the higher risk involved in lending in this region of the world. I do not think that will change significantly. On the dollar side, I believe the pricing is trending up on the ECA side, more so because of the dollar liquidity cost and not risk perception. For euros, I believe the pricing will not go up in the near term.
Gazal: On pricing, it really depends. You cannot generalise what is happening in the market. It is odd, because you have big divergences in terms of sectors, geography and currency. It is difficult to tell what is happening from one deal to the next. We are not seeing consistency in pricing. This is probably due to portfolio plays and the fact that some transactions get priced more aggressively than others. We are seeing a lot of appetite on Asian ECAs in particular: there the market is very competitive. That may be reflective of some of the banks in the region that have more liquidity to deploy. However, if you look at the currencies, there has been an impact on some of the Japanese banks due to the yen/dollar basis spread. There has been an upward trend over the past year or two.
In terms of currency, the pricing in euro is relatively stable. In dollars, I expected it to go up, but it has not gone up in the way I had anticipated. It can be explained by the abundance of liquidity and stiff competition for fewer deals. Basically, as I see it, banks are not necessarily pricing the risk in the same way they did over the last couple of years. There is ample liquidity, though; I do not think liquidity is lacking in today’s environment.
Henda: You mentioned that the euro is stable. What does that mean for you?
Gazal: I am seeing stability, and I am also seeing some downward pressure on pricing in Europe, perhaps due to refinancing schemes. On some ECAs, you have a significant residual risk left over. That has to be priced in properly. We are in a deteriorating risk environment.
Robert: Taking the regulatory pressure into consideration, which is not new, and more recently the fact that the banking industry in Europe has known some tension, I would anticipate an increase of the banks’ costs. In addition, the fact is that we can reasonably expect the ECA market to go down this year. There will be fewer projects to be financed and lower volumes. And banking competition is still fairly strong. You mentioned ample liquidity, that’s right and that puts clear pressure on the margins.
We think this is really a strain, particularly in US dollars, as far as we are concerned. Having said that, I am totally in line with what you mentioned: we also have to look at the various geographies, sectors, etc. It depends. There are geographies, however, for which the risk perception is still a little bit tricky, such as Africa. Therefore, the margin there is higher. Again, even though it is higher in those jurisdictions, we see that there is some sort of pressure. This has been going down, quarter after quarter.
I tend to believe that there will be no major change in pricing – or at least I cannot really see it happen. Perhaps I am wrong, but for the time being that is what I am seeing.
Peyroux: My impression is that, after a long period of downward trending in pricing, there is some stabilisation in the prices. There is also some kind of homogenisation at a European level, where we have seen the pricing gap between the various European ECAs narrowing rapidly over the last two years.
de Lambertye: We all have our preferred ECA. We are all happier working with some of the ECAs rather than others. At Santander, for instance, we are also following the ECAs that are either more active or more flexible, with whom we are really keen to work, because that simplifies all of the processes and the work on the ECA side, probably leading to potential refinancing attached to that. The second is the countries. We have to manage our risk exposure. We are trying to open up new countries where we have not been before. We are very cautious on new countries like Iran, Russia, etc.
Something that is very true for Santander is that we are very much keen to go the extra mile if we have a really strong client angle. We have seen situations where the price, from our standpoint, is probably not well reflected. But we understand that each bank has its own strategy.
Lerch: I like the idea that we have reached the bottom of some sort of pricing cycle, but in reality I experience something different and I see some fundamental logic in this. If volumes are going down and competition is fierce, pricing will be under pressure. I also consider that the pricing gap between different ECAs, countries and sectors is no longer as huge as it was in previous years.
From my perspective, however, there are two elements that are not well reflected in the prices besides risk. First, there is the impact of the leverage ratio and the upcoming debate on Basel IV. These have an immediate impact on our risk models. Knowing that this will be adjusted on a regular basis over the life of loans running 10-15 years, this is somehow critical. In the same way, secondly, I believe that the cost of governance – we all have to pay for compliance, KYC and so on – will steadily increase.
From my perspective, we are all running into a discrepancy of internal pricing requirements and actual pricing levels seen in the market.
Joseph-Horne: Deal volumes are down on last year and they are continuing to trend downwards. Liquidity has been, and remains, high, but generally speaking is being more selectively deployed than it was a year or two ago. This means that for a given deal there is scope for greater price volatility. We will find deals that are attractive to the market and other deals that are less attractive. In the context of downward trending deal volumes and selective deployment of liquidity, we could expect a greater volatility of pricing for these deals. In many respects this is a similar point to Ralph’s regarding the different metrics that banks are applying to a transaction in terms of how they assess it: the client angle, the regulatory angle and the KYC angle on a transaction, plus macro issues like sector and geographic analysis.
To André’s point, the yen/dollar basis swap is currently high and therefore not particularly attractive as a funding source for dollars, but it has been that way for some time. The Japanese banks have been major players in sectors such as project finance and asset-based finance for many years. What the market has seen in terms of leaguetable performance has been more driven by that focus on core sectors and core clients than issues like what the dollar/yen basis swap looks like.
Henda: To finish on global trends, what is the future of disintermediation for our business, in terms of capital markets funding?
Joseph-Horne: Capital markets have great potential, but we have been saying that for years now! It has never reached that potential. The volumes we see in the capital markets for ECAs and project bonds remain low. I do not see that changing any time in the immediate future. If you look at bond pricing as a lead indicator for our industry, it is trending upwards. We have seen bank pricing lower than bonds in a number of recent cases. If bank loan pricing remains at the level it is at now, I would expect bond activity to remain subdued. It is a very interesting product and, as a distribution source, it has a lot of benefits. It has a definite place in the market for primary level distribution as well as portfolio repackaging, but I see it as one solution rather than the only, or the main, solution.
Robert: Balance sheet funding is probably of higher interest today. Having said that, the originate-to-distribute approach still has value. But as you rightly said, Jonathan, we have been talking about it for ages now and this has not really picked up. Where I can see another space for the ECA players is the Scandinavian funding programmes with SEK or Finnvera/FEC or with the newly established French SFIL. If you structure that in a way that is fully accepted by your accounting departments, then you can get full capital relief and it is exactly as if you were using a capital markets tool.
Muhammad: I agree with that. We have always said that the capital markets bring the right buzzwords and we would probably want to use those. However, in the absence of large transaction volumes, it is much easier to look at more customised funding options that are coming from the various ECA funding vehicles, such as the Nordic ECAs, UKEF direct lending or US Exim.
Furthermore, the securitised guarantee programmes are also preferred, because you can probably do more tailor-made sorts of transactions, which give you some benefits of the capital markets strategy without going through a big process. At least from our bank’s perspective, we have been very selective. We do not do large volumes of ECA and I do not think much will change in the near term, because we are not a participating bank in that space, so we have to be selective in our transactions that give us the right returns. For us, it is more likely that we will use those alternative liquidity sources and then capital markets as a catch-all in the medium term.
Gazal: To make it sustainable for a business to be profitable in the long term, you need a very large volume in these transactions to be able to place with SEK or FEC or other off-balance sheet solutions in order to be able to generate the type of revenue you need to if you want to remain in business.
When it comes to capital markets, it has been a question of price. At the end of the day, the reason investors have not caught on to this is because the pricing has been extremely low, which is driven by the ample liquidity there is in the bank market. Capital markets may come back and become a more attractive alternative, however, they will not take over and be the only solution out there. We may see volumes increase either for regulatory reasons, such as the need by banks to dispose of some assets, or because the pricing is such in the bank market – that may, again, be driven by the regulatory framework – that capital markets become more attractive and we see more disintermediation. But something to bear in mind is that, during a crisis period when they were perhaps most needed, their use was marginal, so you have to wonder about the sustainability of this solution.
To me, capital markets are part of the toolbox. It is not the solution that is going to be applicable for everyone; it is not going to work for transactions that have a long drawdown period, are pure insurance products or that have 95% cover. It is much more complex than that, and there is no uniformity in documentation and policies that allow this product to be available across the board.
Lerch: André is completely right. I believe it is not the only solution, but it helps for the reputation of export finance. If there are investors out there who are considering these assets as interesting enough to spend money on, it is good for us. Also, having different options for the sourcing of long-term stable funding helps us to maintain a competitive edge in our industry. Commercial lending is suffering from this as well in terms of having predictable access to competitive funding. I believe it is the right path by supporting and creating a lot of different funding options.
Henda: I think it will take an awful lot of time culturally and return-wise to get it to be a sustainable part of that toolbox. Generally speaking, in financing the economy, in particular, Asia and Emea are still lagging behind – and not only for our products. It is almost only the North American market that is a heavy user of the capital markets for funding the economy. I still believe that it will happen one day. It will probably get percentage point after percentage point, slowly but surely. It will probably be painful. I cannot help but link this to the regulatory environment. It is not only the risk-adjusted return that will matter, but also the balance sheet impact. That may be the external factor that will drive this to a higher pace.
Gazal: If we get to that point where we have to unload assets off our balance sheet for leverage ratio reasons, it is going to drastically change the way this business is run by banks. It has to be sustainable. You have to be able to justify the resources you have available today over the long term to sustain this type of business. That is why you may see a lot of banks getting out of this business, and, in the long run, that is not going to be beneficial to exporters.
Henda: It may be perceived as going against the fact this is about corporate relationships with all types of clients who often require the balance sheet of the bank. That balancing act will be interesting.
Muhammad: There is no one method of pricing here. This is driven by the fact that banks can take pretty much very little net margin for relationship reasons in a highly-competitive position. That is not going to be the case with capital markets. They do not care about relationships.
Peyroux: There is a question about critical mass, if you want to have access to investors and to have recourse to securitisation, for instance. You need to have some critical mass, which, for instance, in the case of BBVA, is not yet the case. But we are looking at it and we are prepared, if we have to, to be able to go to the market. That being said, the originate-to-distribute model remains as topical as ever and we can find other solutions than capital markets for disintermediation of ECA finance, such as the one set up last year in France for the refinancing of Coface buyer’s credits through state-owned entity SFIL; we consider it as a very interesting tool to address liquidity and pricing issues.
Henda: Going on to the regulatory side, let us continue to the topic of the leverage ratio. Does anybody want to share any experiences or discussions with the authorities and/or other bodies?
Lerch: This year may be decisive for a wider discussion on the leverage ratio. The European Banking Authority (EBA) is inviting insights, so we see that in the meantime they are more open to speaking about the leverage ratio and its impact on lending. I feel that the EBA is still at an early stage in this respect. They lack a fundamental understanding of the mechanisms of trade and export finance. It is on us to convince them that they need to tackle this.
I would consider it a success that at the end of last year the EBA acknowledged trade finance for the first time in a report filed on the impact of the net stable funding ratio on lending. It was the conclusion that it needed to be further observed and carefully assessed. Unfortunately, in terms of statistics, it is pretty difficult to see the impact on business in numbers. It is also difficult to convince the EBA that banks play an important role in ECA business. This was completely missing in the EBA report on the net stable funding ratio.
The EBA has some warming up to do in terms of coping with our topics. As for the leverage ratio issue, however, this year will be crucial. The EBA has to file a report on its observation of leverage ratio impact on lending, including trade and export finance. Simultaneously, the debate with the Basel committee will continue, since the proposal for adjustments to the internal ratings-based approach segment will be launched this year. We have to address the trade and export finance specifics over the coming months to ensure our voice will be heard.
Gazal: In terms of advocacy, obviously the banks are trying their best to pass their messages through these channels. The impact is going to be on the exporting companies. Mobilisation from their standpoint would help a lot as well. More can be done in that regard.
In terms of the leverage ratio, I do not know how each bank treats it, but obviously the impact on pricing is not taken into account today. When the actual implementation of the leverage ratio comes into play, we will see how that transpires through pricing. It is going to be interesting to see how different banks deal with it, as banks will either address the ratio constraints on an individual business line basis or on a global bank portfolio basis. It is going to be up to each bank to decide how they treat it.
Henda: We have some time for the leverage ratio – corporates and exporters need to be very vocal in this exercise. That is the case in the aviation industry and some specific segments, but there are probably lessons to be learned from those. What about sanctions and embargoes?
Robert: This has been well summarised by the head of the French Banking Federation. She was being questioned by an Airbus representative, who was exhorting banks to overcome their reluctance to finance exports to Iran. She explained that, at that moment, because of the legal uncertainty, it was impossible to re-engage with Iran. That is where we are.
Joseph-Horne: No change for us, no. We will wait and see.
de Lambertye: No, there is no change for us either. We are trying to monitor the situation closely. We have engaged a law firm to help us on that.
Henda: For us, no change either, it is about existing debt repayment. That is the priority: to get our repayments back in compliance with applicable rules.
Lerch: No changes for us either. I feel that the sanctions might be seen by politicians as a success and as efficiently working – so we will presumably be faced with sanctions regularly in the future. It is somehow against the nature of long-term business because you have to build up trust and predictability for long-term loans. But sanctions and embargoes are the new reality and we have to follow them strictly.