It’s hard to imagine Wall Street star Michael Douglas, all red suspenders and slicked-back hair, playing a trade financier. Trade finance has never had charms for the Gordon Geckos of banking. Trade financiers don’t wear fancy suspenders. Their characteristic fashion statement is said to be brown shoes. There are no big swinging dicks, no million-dollar bonuses. Instead of Douglas, a casting agent might pick Rowan Atkinson.
But this image needs updating. The modern trade financier may not be flamboyant, but he’s well dressed and highly paid and may even have a colourful personality. Take Andy Ripley. A former England rugby player, he has made a name for himself as one of London Forfaiting Company’s most successful executives. He has just left to study trade finance at Cambridge University. At the age of 50, he’s also trying to win a place in the Boat Race crew. This is more like Chariots of Fire than Mr Bean. The new image is attracting bright and aggressive people into the business. Structured trade finance is all the rage, and all the banks want a slice of the action. Why?
“Trade finance offers a source of real value-added business,” says Luigi La Ferla, director of trade finance at Deutsche Morgan Grenfell. “All the banks want to have a trade-finance team. It has become glamorous.” Not just glamorous but also profitable, though it’s still unsophisticated. Compared with the growth and increasing complexity of emerging market debt trading in the past decade, trade finance has stood still. Less than seven years ago Peruvian debt was trading at 4% of face value. Paper was swapped between US and European banks. “You take my awful Polish paper and I’ll take your Peruvian stuff” was the gist of the argument. Then screen trading developed, loans were restructured into Brady bonds, and new money was lent.
In the meantime, nothing much changed in trade finance. Bankers will argue that one of that market’s strengths is its dullness. Trade paper continued to be serviced even during the depths of the problems of the 1980s in Latin America. There is still little screen-based trading. Because deals differ widely in their structures, they are hard to price using simple methods. There’s constant talk about developing a screen-based system but nobody has yet done so. Screens would add liquidity. Despite the turmoil in Asia, there has been no selling frenzy. But this lack of volatility also implies a lack of liquidity. There are investors stuck with paper they no longer want – they realize the return does not justify the risk. They face the difficult decision of either taking a hit or holding on and becoming an investor.
This is one reason why banks have been trying to introduce the capital markets to the business. As spreads in syndicated loans diminished, a compelling argument could be made that trade-finance deals could be sold down in increasing numbers, reducing the risk for the arranger and creating a healthy margin for the investor. Despite the fallout from the Asian currency and stock market crisis there are still hopes this can be achieved. “New deals are not getting done yet, prices are going up, but companies and financial institutions are going to have to adjust to the fact that there is a new benchmark of prices,” says Roy Bennett, assistant general manager, forfaiting and syndication, at Standard Bank. “Prices were too fine for emerging markets and this has been a necessary correction.”
It is the first time in more than a year that things have been quiet for trade financiers. With most banks catching on to the notion that trade finance, particularly if it is labelled structured, is sexy, anyone with more than a year in the market has been called an old hand. Last year world trade grew by 4%, compared with economic growth of just under 3%. The 1997 UN conference on Trade and Development predicts similar growth for this year.
In Andy Ripley’s new book, Forfaiting for Exporters, he claims that more forfaited paper is being traded than at any previous time. The market is estimated at between $30 billion and $50 billion, though some market players are dubious about this figure. If true, however, it gives forfaiting around a 5% share of world trade.
In the world of trade finance, when the phone rings it’s now sometimes a headhunter. The entire team at Union Bank of Switzerland moved to Belgium’s Kredietbank – more the behaviour of a star equity or debt-origination team than what is expected in this market. The team, led by Ian Brigden, had an impressive portfolio of deals, including more in the pipeline. One was to Sociedade Nacional de Combustiveis de Angola (Sonangol), Angola’s state-owned oil company. The team hoped to lift some of this success for their new paymasters.
In August they failed to win the Sonangol deal for Kredietbank, with UBS’s new team managing to cling onto it, even though they had to offer improved terms. The $400 million prepayment finance facility is the fourth deal arranged by UBS for Sonangol since 1989. It is a three-year deal, fully underwritten by UBS. The pre-export facility to Sonangol is backed by a commercial oil supply lifting arrangement with BP. Pricing is about 200 basis points over Libor.
Although not wanting to gloat, UBS’s Champagne is understandably delighted that his bank managed to hold on to the deal. “The fact is that you find a lot of institutional loyalty among clients,” he says. “Even though there may be a lot of personal loyalty and a good relationship, clients still want to consider the size of the institution, its credit rating and its ability to offer merchant-banking skills.”
Other banks have also geared up. NatWest Markets spotted the potential of structuring deals with a view to widespread syndication. However, it has been hampered by the uncertainty about the bank’s future and a certain naivety in some of its deals. Other bankers say they are more often seen buying than selling. A fast turnover of personnel has not helped. “They’ve restructured more times than Brazil,” says a rival banker. At the end of last year NatWest bragged that a deal in Russia was in the bag. The proposed $500 million trade financing for Russia’s leading diamond producer, ARS, is only now in the market, one year later than syndication was originally planned for.
Citibank is another bank that suddenly woke up to the possibilities in trade finance. After a dominant position in that market in London during the 1980s, many of its stars had departed. But it has won the prestigious mandate for the pre-export financing of the 1997-98 harvest season for Ghana’s Cocoa Board (Cocobod), the largest single soft-commodity financing in Africa. The Cocobod mandate was hotly contested by some 30 banks, with all of them realizing that the pricing would have to be intensely keen in order to win the award. Citibank eventually won the arranging mandate with pricing at 37.5bp over Libor.
As well as old banks returning to the market, new banks have been set up to specialize in it. At the Crans-Montana forum in Switzerland this summer, Saudi Arabian businessman Adnan Khashoggi announced the setting up of a new bank designed to focus on oil, transport and telecommunications projects in Azerbaijan, Chechnya, Georgia and southern Russia. The bank, to be known as Caucasus Investment Bank, will start trading early next year with a paid-up capital of $100 million. Khashoggi says he will personally be investing $10 million. The bank will be half owned by Khashoggi and Saudi Arabian partners, with the rest held by business groups in Chechnya and the Transcaucasus republics, and some funds from the west.
Other forfaiting operations have been set up in London. These include Eurotrade, a trade-finance operation owned by the Texaco/Polycindo group, which has been started by ex-Standard Bank forfaiter John Vowell, and San Paolo di Torino’s trade finance operation. Dennis Keenlyside, a veteran of the market, has joined NedBank, while Dino Skandalisis beefing up Banco Santander’s operations. Bank of America has also increased its commitment to trade finance.
The fallout in Asia, which has caused turmoil for debt and equity origination teams, is an opportunity for trade financiers. Many had retreated from the market as spreads became too narrow. For example, a 10-year deal for Bangkok Bank was in the market in the summer with a spread of 70bp over Libor. Wise financiers ignored it. A similar deal would now be more than double that.
Some trade financiers will not be able to take advantage of the new possibilities, even if they want to. They have competed for cut-price loans that will need to be repaid in hard currency. With local currencies devaluing by up to 40%, there are bound to be some defaults. “It is too early to say,” says David Lilley, director at London Forfaiting. “We have no particular strategy until the mist clears, but will look at transactions on a case-by-case basis. But the essence of business out there is to syndicate them in capital markets.”
Bankers are always very secretive about the precise structuring of their deals, but essentially the strategy is simple. The key is to get as high a return as possible, while palming the risk off on somebody else. That is why you should never listen when people tell you that export credit agencies are defunct dinosaurs. What could be nicer in times of turmoil than having the risk picked up by the taxpayer?
The aircraft industry learnt this at the beginning of the 1990s, when after flirting with exotic structures such as Japanese leveraged leases financiers discovered it was easier and safer to get a government-run agency to pick up the pieces.
There are four main types of lending available for trade financiers. First, there is the classic forfaiting structure, which is geared to an export deal, where the financial institution holds the payment obligations of a banker or importer as an aval (guarantee of payment). Secondly, there is the situation where a bank sets up a trade-related promissory note programme for a domestic bank in an emerging market. Thirdly, an import facility can be set up for a local company. Finally, a pre-export financing facility may be made available. The key to all these structures is a bank guarantee.
But the bull market of the past year led some institutions to take risks they may regret. “When margins drop, there are two ways to maintain profits,” says Standard Bank’s Bennett. “You either have to increase turnover or take more difficult risks.” Some banks have been taking corporate risk, such as Petrobras and Eletrobras in Brazil, and Telmex and Cemex in Mexico, or relying on the guarantees of second-tier banks.
Some of the sorts of deals that have been completed this year might not be repeated, particularly not at the same prices. Deutsche Morgan Grenfell’s table of forfaiting rates tells the story. In the September 25 table, Russia is quoted at 9.94% in US dollars; by November 13 this has jumped to 12%; Indonesia is up from 6.9% to 7.4%; and Myanmar (Burma), which was on a 12% rate in September, has fallen off the page altogether.
DMG’s La Ferla welcomes the onset of more difficult conditions. “A trade financier’s job is to find business where money is in short supply. We are never going to be the cheapest source of financing. It is like the difference between a cosmetic surgeon and a reconstruction surgeon. One you need, and one is vanity. People call us when they need us, when there is no other money around, or it’s too expensive. They contact us when it is the only game in town.”
Those banks whose main strategy is a path to the equity markets are likely to be disappointed. A deal such as Société Générale’s $100 million financing of exports to Turkmenistan for US tractor manufacturer John Deere is unlikely to be repeated soon. The financing consists of an 85% US Exim Bank credit and a 15% cash payment from SocGen. This is a medium-term deal with the Exim portion over five years, and three years on the SocGen cash amount.
SocGen won the mandate from the Turkmen government through the State Bank for Foreign Economic Affairs of Turkmenistan. The guarantor is the government of Turkmenistan, acting through the cabinet of ministers. The deal is highly important, not only because it is a significant-sized trade financing for Turkmenistan backed by US Exim, but because it is one of the first export finance Exim Bank deals to use the capital markets to place a portion of the 15% cash payment loan. But the presence of US Exim in the deal is a comfort.
Other deals have been arranged elsewhere in the former Soviet Union. ABN-Amro signed the first syndicated loan for a private-sector company in Kazakhstan. The arrangement will involve a group of six banks providing a $45 million revolving credit to Ispat Karmet, one of the largest steel mills in the former Soviet Union.
The ABN-Amro arranged loan is a revolving pre-export facility for $45 million, with a duration of six months. Ispat Karmet will use the funds for general working capital purposes which also enables the company to execute various sales obligations. Including ABN-Amro Bank Kazakhstan and ABN-Amro Bank NV there are a total of seven banks involved in the deal.
The market is likely to see a period of consolidation. The key to a successful forfaiting business will be origination. The big players – such as West Merchant Bank, Deutsche Morgan Grenfell, Standard Bank and London Forfaiting – will be able to win deals, which means that they will have paper to sell. Many of the other players will be scratching around hoping for a radical improvement in conditions. That will give them time to dust off the brown shoes.
