23rd March 2022 –Trade finance can be enticing for institutional investors as a way to diversify portfolios, however, many still need convincing.
CAMADATA’s latest whitepaper on Trade Finance explores if it can give investors an alternative to poor corporate yields and become a mainstay in institutional portfolios in the future.
The whitepaper includes insights from firms including Aegon Asset Management, Allianz Global Investors, NN Investment Partners, bfinance, Cambridge Associates and Lane Clark & Peacock who attended a virtual roundtable hosted by CAMRADATA in February.
The reports highlights that trade finance offers investors a deep, varied form of private credit that provides income with low to negligible sensitivity to interest rates, with the range of returns from 1% to 15%. However, until now, this type of credit has attracted institutional investor assets in the low billions rather than trillions.
Many investors have been put off by scandals such as Greensill, Hin Leong and Agritrade, and still need convincing that banks have left enough decent opportunities for asset managers to work with. There is also the issue over the tremendous variety within trade finance, which is a source of diversification and confusion.
Natasha Silva, Managing Director, Client Relations, CAMRADATA said, “When it comes to fixed income, institutional investors are varying their diet, and one of the latest alternatives onto the plate is trade finance. Its forms are numerous; the potential for short-maturity returns uncorrelated to public market debt is high. Moreover, asset owners are keen for reliable alternatives to the miserable yields on blue-chip corporate paper.
“But, asset managers still need to educate prospects so they understand the risk-return characteristics of the many different activities (and actors) within the trade finance spectrum. Our panel discussed where the opportunities may lie.”
Panellists were asked how far and fast trade finance can become a staple within institutional investors’ portfolios. They shared their views on the popularity of trade finance investment strategies, as well as what kind of deals are available to institutional investors given the dominance of banks in trade finance. They were also asked what trade finance is competing with and where it fits into client portfolios.
The final discussion centred around risk management, including ESG policies and the challenges such as analysing ESG data on operating companies and related holding companies.
Key takeaway points were:
- Trade finance demand thus far from institutional investors has been promising, in spite of some high-profile scandals such as Greensill in the UK.
- One panellist noted that it would become its own asset class within the credit school and as that asset class develops, there will be a whole range of strategies.
- Another said the opportunity-set for institutional investors will grow as banks reduce what they can do in this asset class due to regulatory and operational constraints.
- A consultant said that in the last two years client appetite has picked up for trade finance, with interest coming from Sovereign Wealth Funds, insurers and asset managers looking to build income strategies from alternative forms of debt.
- They added the extraordinary conditions caused by COVID and its containment policy, have resulted in great dispersion of performance, especially at the higher end of the risk/return spectrum. This has been great for investors to discover which strategies are most defensive and for managers to focus on the most resilient counterparties going forward.
- Another said they like trade finance investing as there is potential for diversification and returns in excess of Investment Grade bonds. In practice, however, trade finance is often easy for them to reject on grounds of foreseeable problems that would arise in a fund’s due diligence process.
- Looking at what kind of deals were available to institutional investors given the dominance of banks in trade finance, one panellist suggested that rather than seeing banks as competitors, the question should be: how can asset managers partner with banks and sit alongside them in high-quality transactions.
- It was noted that trade finance from most institutional asset managers’ perspectives is not about replicating the banks’ model. Some of the earlier funds that have offered equity-like returns by including direct lending have not performed very well.
- A panellist emphasised that the use of resources extended beyond portfolio managers to other specialists, including lawyers and independent structuring boutiques. Asset managers need to be proactive and scour the market for the best risk-reward transactions as part of the overall due diligence process and be selective in the types of counterparties they work with.
- It was observed by a panellist that fast-moving receivables portfolios are challenging for ESG analysis and influence, and restrictions are possible on red-flag sectors and geographies: oil and coal, for example, are excluded from their strategies.
- Another said that one has to distinguish between commodities. Some are considered bad because of their contribution to global warming while others, such as sustainable agricultural products, are ESG-friendly.
- Financing working capital finance means a direct relationship with the underlying businesses, rather than lending with a specific use of proceeds. There are therefore subtle differences in the ESG analysis between a trade finance investment and a traditional debt instrument.