African international trade has suffered greatly owing to the COVID-19 pandemic. Banks have suffered losses in tandem. Lately, some global banks, European ones, at least, wonder if the increasingly scandal-prone and thin-margined trade finance business is worth the trouble. A couple have actually decided to leave the business altogether.
What are the implications of these developments for African banks? Are the continent’s banks similarly having a rethink about the trade finance business? What are the short, medium and long-term prospects of the trade finance business in Africa? In early September 2020, I sought the views of Amish Shunker, head of the trade and working capital solutions structuring group at Standard Bank in Johannesburg, South Africa, to answer these questions.
Do you see African banks similarly wondering about the viability of their commodities trade finance business like their European counterparts are already doing?
The actions taken by some of our European counterparts are not entirely a surprise, especially with regards to the Consumer (soft commodities and agriculture) and Energy sectors. Over the last 12-18 months, this was in fact something done by a few others. The action is reflective of a change in operating and business models, redefinition of strategy and in some cases a change in leadership.
Naturally, the oil price decline at the end of February, the COVID-19 pandemic and its impact on market demand and supply chain disruption has exacerbated some of these intentions and actions.
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For most financial institutions, the cost of facilitating this type of business is significant, and in a situation where prices are low and off-take is uncertain, there exists the potential for financial repercussions for banks themselves. In such cases, it is common to take stock and re-assess positions with regard to risk appetite relative to profitability, return and sustainability.
This exercise of re-evaluation and re-assessment will likely be one that we see across the trade and commodity financing banking sub-sector and should be no different for Africa. That being said, it’s probably taken place in most trading and finance companies already, across both the banking sector and in the corporate space. What should be remembered though is that we are a continent rich in resources and we have many local and regional African banks undertake the financing of commodity trade flows.
While we could very well see a few curtail the extent of their trade finance offerings, I still foresee the continuation of this business in many banks on the continent into the future. What I do see being an important consideration though, is the quality of the client franchise that banks decide to support. I foresee banks consolidating their risk appetite to a selection of clients that perform strongly across a few key parameters, most notably, governance adherence, risk management, as well as financial stability and sustainability.
As a by-product of some of the transpirations in Europe and Asia, I also see the margins increasing for this type of lending. Commodity financing has typically been associated with aggressive margins. Over the next 12 months, we should see a gradual movement in the pricing points to account for the risk, so I do see African banks charging a premium for the services that they offer.
Something else which will also come through is the tightening of transaction structures and financing mechanisms (the evolution of the banking product so to speak). Trade and commodity financing risks are real – as we have seen in other parts of the world – and for banks (like those in a resource rich continent like Africa) – who will undoubtedly need to play in that space to support the growth of its people, we will see more stringent conditions attached to deployment of capital and liquidity.
In light of structural changes in the oil & gas industry around green energy and climate change and recent mishaps in Singapore etc., is oil & gas trade financing still a viable or lucrative bet for African banks?
In supporting the growth and development of the continent, it may still be, but it goes to the point made earlier. A big part of doing the right business, the right way, is also doing it with the right partner.
As banks look to consolidate their appetite for trade and commodity financing and focus on a more selective bouquet of strong performing options, one of the key criteria in this exercise of client franchise consolidation will be non-financial factors – here I mean the ESG factors.
Banks financing these trades will have stringent internal policies that they adhere to, together with Global industry principles that they subscribe to also. Ensuring that the client you bank, and the transaction you bank is aligned with industry best practice, your own objectives is paramount even in your mere consideration of such a deal. Time will tell though.
