BNP Paribas is the latest bank to withdraw from commodity trade finance with the announcement this week of the closure of its Geneva business.
The bank’s decision to quit the market follows that of ABN Amro in August and reports that other major European banks are reviewing their portfolios.
While commodities trading has been highly profitable for some banks this year, spurred in part by Covid-induced volatility, money has been lost in commodities trade finance, including two very prominent scandals in Singapore. Zen Rock collapsed earlier this year, owing $600 million, shortly after Hin Leong collapsed amid allegations that $800 million in losses had been concealed.
Losses in trading happen when traders make the wrong bet or exceed their limits. When disaster strikes in trade finance, it is often because assets the bank lent against turned out not to exist.
In the case of Zen Rock, lender HSBC has alleged that Zen Rock issued duplicate invoices for the same cargo of oil. If so, it will sound very familiar to banks caught up in the 2014 Qingdao metals scandal, when as much as $3 billion was reported to have gone missing when warehouse certificates were falsified to raise finance
The scandals go to show the difficulty of lending safely against physical assets that are mined far away and which change hands many times before reaching their end destination. But it’s precisely because of these dynamics that trade finance is essential.
Without banks such as BNP and ABN prepared to support the activities of middlemen in supply chains, there is the risk that trade will dry up, or become dominated by the very few parties big enough to continue financing the business.
Adding new controls and introducing new technology is one way to manage the inherent risks, but for some banks it’s no longer worth the trouble. Commodities trade finance can be a capital intensive business, returns have fallen, and repeated scandals have wiped profits out entirely for some. Besides, financing commodities such as coal, or activity in certain regions, brings other compliance or ESG headaches some would rather avoid.
It was said that during the Gold Rush, the best way to make money was to sell shovels to prospectors. Today, the supply of money is as important as the supply of equipment was to the 49ers. Whether the void is filled, and by whom, will be crucial in determining how physical commodities trading gets back on track.
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Originally published at https://chai-uk.com on September 24, 2020.
