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Deven Chitaliya is Senior Vice President & Global Head Credit at Olam in Singapore, where he is responsible for Credit and Counterparty Risk management across 12 agri-business platforms spread across more than 70 countries. He is also responsible for development and roll-out of company-wide Enterprise Risk Management Framework.

Could you please tell me a little about the Enterprise Risk Management, or ERM, that I believe that you helped introduce at Olam?

All organisations must manage risks effectively to endure and thrive. Traditionally, most organisations assign risk management to business unit leaders within their areas of responsibility. We call this “silo” or “stove-pipe” risk management. For example, the Chief Technology Officer is responsible for managing risks related to information technology operations; the Treasurer is responsible for managing risks related to financing and cash flow, and so on.

However, risk does not respect organisation charts; it can be anywhere and take any form. Some risks “fall between siloes”, unnoticed by individual leaders. Others can affect different units differently – managers may not know that a decision taken for one silo can cause or escalate risk in another. The upshot is that risk can go unnoticed or not be effectively tackled until a catastrophic event is triggered.

Another challenge with traditional risk management is that it is often internally focused and granular – looking within the four walls of the organisation, with minimal focus on risks that may emerge from outside the business.

At Olam we have mapped 51 risks (including 19 quantifiable risks) across 11 risk categories that Risk Office monitor, measure and report at regular interval along with each department.

We have 13 people in the Risk Office team in Singapore and 2 in London.

What are the most important considerations when implementing a Risk Management Framework for a company?

The most important is a strong governance structure and an independence of risk management team. You also need what I call a “holistic risk capture’” that is both outward as well as inward looking, and which covers the entire company, not just individual business platforms within the company. Risk must be consolidated and assessed both at business as well as corporate level.

Obviously, you need to measure risk wherever you can, and keep on stress testing and analysing different scenarios. You need proactive operational risk controls in the areas of credit, counterparty, stock, quality. At a platform level, you also need strict ‘drawdown’ and ‘stop loss’ policies.

But perhaps most importantly you need to assess your company’s risk appetite. That may sound obvious, but many companies go into trading without first assessing their risk-taking capabilities.

Could you tell me which are the biggest risks that Olam currently faces?

The biggest and most important risk that we face is the health and safety of our employees; we spend a lot of time making sure that we minimize those risks. This is especially the case now with COVID-19, where we must make sure that social distancing, sanitary measures and all requisite PPEs are always made available for factories, warehouses and our plantations.

I would say that cyber-security risk is our second biggest risk. The innovative ways in which your systems and people information can be hacked and misused sometimes even surprises experts. With wide-spread operations across product platforms and geographies, standardization of IT controls and effective implementation of latest security controls across the company becomes key to counter and reduce losses in case of actual cyber-attack or cyber fraud.

Supply disruption is currently our third biggest risk. Labour shortages and transport / logistics bottlenecks can also be an issue. We do see some slowdown in select countries. However, most of the Agri products fall under the list of essential commodities and therefore the trade is still immune from complete shutdown.

There have been some relatively short-lived food export bans from certain countries, but they have not really had much impact on the supply of food. Ports have remained open, and the food supply chain has shown itself to be robust and flexible in dealing with the current crisis.

I would put demand destruction as our fourth biggest risk. This risk is less with food products, as demand more or less remains constant. People have to eat. However, things can be more complex with what we consider as industrial products like cotton where purchases by end-users can be deferred for fairly longer periods.

For example, we have to ask ourselves how the collapse in retail clothing demand in Europe and the US might lead to the cancellation of their orders, say, with Bangladeshi clothing manufacturing factories, which in turn might affect cotton sales contracts.

In-depth regular risk reviews with business team with focus on operational checks and controls plus assessment of high-risk areas and bottlenecks helps us take proactive actions as “One Olam” team.

Has Covid19 increased counterparty risks?

Olam is quite unique among the major agricultural trade houses in that we are very involved at origin. Our vertically integrated supply chain for our Upstream businesses means that we have very limited and well-managed counterparty risk on our supply side.

Our counterparty risks tend to be downstream where we are dependent on timely contract performance and payments from our Customers. Market volatility plays an important role. Higher the volatility, higher the ‘mark to market’ exposures, and therefore higher the risks.

Not only do we have to assess the risks to our businesses, we also have to constantly monitor the risks to our clients’ businesses: are they facing supply issues; has a major buyer defaulted on them; how is their cash flow with regard to their stock levels; how is their payment performance with us, what are the inputs from our market network, etc? Any of these things can show us an early warning sign / red flag for timely and corrective action.

It goes a long way to ensure long-term relationship building and trust when we try to offer innovative solutions where possible to support their businesses. e.g. short-term cash-flow issues, bank assisted structures to support payments, credit insurance / collaterals / deposits / parent guarantee backed exposures, etc

What keeps you awake at night?

That there is something out there that we don’t know about. I am not worried about the things we know about: any event that may occur once in a while in normal course of business; we have robust systems in place to monitor and manage these known risks.

I am spending a lot of time now, for example, wondering whether there will be a second wave of COVID-19, and making sure that if there is one, we will be ready for it.

Another unknown, of course, is technological development and innovation: will something be invented that might negatively affect one of our businesses? There is no easy way of knowing that except to remain up-to-date on what are the major initiatives, experiments and actions being undertaken across industry!

Many thanks, Deven for your time and input!

Deven will be participating as a panellist in Commodity Trading Week online

© Commodity Conversations ® 2020

Ric Rhinehart was until recently Executive Director and CEO of the SCA, the Specialty Coffee Association. I asked him if he was worried about current coffee demand with cafés closed and a sharp increase in unemployed.

The price elasticity of coffee is low. If you are a coffee drinker, coffee is a relatively high priority at a relatively low-price basis, so you’re willing to defer other expenses in order to continue to drink coffee. Conversely, if coffee was suddenly free you wouldn’t increase your consumption to say nine or ten cups a day. You’d still maintain your three or four cups.

Coffee has also been very resilient in economic downturns. That was true in the global recession in 2008 when coffee consumption stayed relatively strong. What shifts is the venue of consumption. When you’re in an economic downturn people tend to return to drinking more coffee at home and drinking less coffee out of home.

In the current scenario it’s quite different in that the cafés were literally forced to close because of social distancing. I suspect that a lot of marginal operations will disappear.

It seems to be the specialty sector that’s been driving the demand growth in the US. Is that correct?

Absolutely. In mature markets, particularly in the US, coffee consumption had peaked in the early to mid 1960’s and was in decline until the mid-90s when the speciality coffee movement began, and people started returning to coffee.

With the growth of coffee bars and shops there was also a new venue of consumption. People began drinking coffee outside of their home and their workplace. That really changed the market.

And is that demand growth continuing in the US?

Yes, coffee consumers in the US now drink on average three cups per day, and that’s back up to practically to where it was at its peak. Consumption continues to be on the rise, and it continues to be driven largely by the specialty sector.

Coffee consumption in kilos is still just a little less than 70 percent in home, but in dollar value it’s probably 55 percent outside the home now. A lot of that has to do with the price point of a cup versus a price point of a kilo.

I have heard talk of a price crisis in coffee. Is there a crisis?

Coffee farmers, small holders in particular around the world, frequently produce and sell coffee at below their cost of production. They don’t have a lot of other options. For many smallholders, coffee is a cash crop that augments subsistence farming at the same time.

The board of the SCA asked me to spend my terminal year focusing on that price crisis. We launched a price crisis response within the organization to try to understand what drives the cyclical low prices in coffee and what we might do about it.

What’s the solution?

Unfortunately, I know more about the drivers of the problem than I know about the solutions.

I believe that the problem’s biggest driver has been the shift in the approach to economic activity from pre-Friedman capitalism to a post-Friedman capitalism. Instead of Ten Commandments there were two: first, that the market shall be unrestrained; second, that shareholder value should be paramount. That became the religion of economics worldwide.

It seems that the pendulum is swinging back towards stakeholder rather than shareholder capitalism.

That’s very good news for the coffee industry and for all of the farmers around the world. It’s a belief that you’ve got to look after your stakeholders.

And in economic terms that suggests that you have to price in all the externalities. You can’t let the market force out the externalities.

The most important is to reassess how we form our values as a separate issue from how we assign value.

What is your favorite coffee and your favorite way of preparing it?

That’s like asking me which out of my four children is my favorite. I don’t have a favorite, but I love Ethiopian coffees. Ethiopia is the birthplace of coffee. There’s more diversity in flavor and style in coffee in Ethiopia than anywhere else on Earth.

It is generally true that the way you’ve come to coffee is the way you stay with coffee. I grew up as a drip coffee drinker, and I am a drip coffee drinker today.

© Commodity Conversations ® 2020

This is a brief extract of an interview that will be published in my upcoming book “Merchants & Roasters – Conversations over Coffee”

 

Good morning Steve, and thanks for agreeing to talk with us. First, could you please tell me a little about yourself?

After studying Economics at the London School of Oriental and African Studies, I joined Rowntree’s as an economist in their cocoa buying office. In 1988 I moved to ED&F Man to become head of cocoa research. Three years later they merged their cocoa and coffee divisions and I took over as head of research of both. When ED&F Man bought Volcafé in 2004 I also became head of coffee research for Volcafé.

In 2006 I moved to the US to join the Ospraie hedge fund. I worked for them for four years before coming back to the UK to co-found Tropical Research Services. We provide research and data on the coffee, sugar and cocoa markets, including extensive field research.

What does the current S&D look like for coffee?

Arabica is interesting at the moment; there are a lot of similarities with 2009/10. That year there was a shortage of mild arabica and a surplus of Brazil naturals. Differentials for mild arabicas from Central America and Colombia widened significantly, certified arabica stocks declined and eventually the market rallied to 300 cents per pound to ration mild arabica usage. There wasn’t an overall shortage of coffee in the world, just a shortage of mild arabica. The New York C contract is a mild arabica contract.

We are in a similar situation now where the differentials for Colombia and Central America mild arabicas are increasing, certified stocks are falling, and we have a record Brazil crop of natural arabicas, rather than the semi-washed arabicas which could substitute for mild arabicas.

The big unknown is what impact Covid19 will have on demand. We are seeing the collapse of out of home consumption as restaurants and coffee bars close, and a big increase in at home consumption. This may lead to a shift away from mild arabica consumption towards naturals and robustas.

We are also heading for a major recession. In 2008 after the Great Recession, coffee consumption held up, the rate of growth slowed but people carried on drinking coffee. But in hard times, consumers tend to buy cheaper coffee, so again, Covid19 could lead to lower mild arabica consumption and higher naturals and robusta consumption, so we probably won’t see a price spike as high as in 2009/10, but if Covid19 does not resolve the mild arabica conundrum, prices will.

There is also a risk to the semi-washed harvest in Brazil from Covid19 measures on labour supply. The Brazilian government is trying to stop people moving across state borders and this may lead to a labour shortage. This could slow the harvest. You won’t lose any coffee as the harvest will just go on for longer, but you could see a fall in quality.

This is something we will be monitoring as the harvest progresses, and we have people in the field looking at how the harvest is progressing.

Any drop in semi-washed production could further tighten the mild arabica balance sheet, so there are a lot of moving parts at the moment.

Where does Vietnam fit into this?

The robusta market in London used to represent Vietnamese coffee, Vietnam being the world’s largest robusta producer. As most of the Brazilian robusta crop was consumed internally little was exported. Over the past few years Brazil has created a surplus of robusta – conilons – that was exported and is now sitting in Europe. There is very little demand for this in Europe.

Roasters don’t like them, and consumers don’t particularly like them either. What should happen is that the price differentials between Brazil conilons and Vietnam’s become so large that roasters would start blending in conilons.

There is however a problem in that the EU has just tightened up their rules on pesticide and herbicide residues, particularly glyphosate, in food. Brazilian growers use more glyphosate nearer the harvest than in other producing countries.

A lot of the conilons already in Europe no longer meet the tightened EU restrictions, and as a result no one in Europe wants the conilons. No one wants to take delivery of London. The calendar spreads are weak and the coffee continues to get carried forward. Meanwhile, the funds stay short, picking up the roll yield each time they roll forward.

Basically, the London robusta coffee futures contract is broken.

What’s going to happen to those conilons? Are they going to be burnt or dumped in the ocean?

Maybe they will be shipped to Russia, the US or Mexico. Robusta certified stocks have been coming down, so the market is slowly finding a solution.

Please tell me a little more about what is happening on the demand side?

The ICO did a study recently that showed a 95 percent correlation between GDP growth and coffee consumption growth. Because GDP going to take a big hit with Covid19, some people expect coffee consumption will collapse.  I am not so convinced. There is also a very high correlation between coffee consumption and population growth, and population will continue to grow despite coronavirus.

In 2008 – the last time we had a decline in global GDP growth – the rate of coffee consumption growth slowed, but consumption still grew. This is in stark contrast to cocoa consumption, for instance, which showed a substantial decline. The difference is that cocoa is a luxury while coffee is – in many respects – a necessity.

During the last two years, prices have been low in dollar terms and consumption has grown by 3.5 percent per year. We expect that consumption growth this year will drop to 1-1.5 percent. If GDP growth takes a really big hit, the growth rate in global coffee consumption may fall to zero, but I don’t expect it to fall to below zero.

People who buy a cup of coffee on their way to work will now make it at home. The question is what sort of coffee they will buy from the supermarket. Will it be mild arabica or a blend of naturals and robustas? Possibly the latter.

How big will the shift be from mild arabicas? If there is no shift, then you have a potentially explosive situation for the arabica market. If the shift is big enough then we could just about get by.

We’re factoring all this in and we will review it as the year progresses, along with crop developments in the major producing countries.

For more information on Tropical Research services please visit www.tropicalresearchservices.com or contact Steve directly at

steve@tropical-research.com

Shirin Moayyad has been in the coffee trade all her working life and has recently opened her own roasterie in Switzerland. I asked her to tell us a little bit about herself and how she got into coffee.

I studied anthropology as an undergraduate and then began a master’s programme in development studies. For that I needed to do a practicum and I somehow found a position in the highlands of Papua New Guinea, working with an anthropologist. I quickly realized it wasn’t for me, so I took a job with a local trading company that owned coffee plantations, along with their other businesses.

As I spoke the local language, they put me in charge of the 100-acre coffee plantation that I lived on. So, I literally learned coffee from the ground up – from the farm angle.

At the time there were only two tiny coffee roasteries in Papua New Guinea.  My company purchased one of them and tasked me with its management. I was instructed to modernise it and develop an export market. Our coffee ended up in supermarkets all over the South Pacific, including Australia and New Zealand. It was quite a success as a model for value-adding in-country, and a wonderful project to be involved in.

After 11 years in Papua New Guinea I moved to Singapore, where I was hired to set up the roasting plant for a chain of coffee shops. I commissioned the roastery and was both the roaster and green coffee buyer for them.

My next move was to Peet’s, as their green coffee buyer and often storyteller. Based in Oakland, I travelled the world looking for specialty coffees for them. It was a magic job, working with some of the most amazing people in the industry, who have remained friends to this day.

From Peet’s you were recruited to Nespresso in Switzerland?

I moved here in January 2013. I landed in a snowstorm and it carried on snowing for the next 10 days. I had never seen anything so beautiful. If Disneyland did Switzerland, I thought, this is what it would look like.

At Nespresso, alongside my job as Coffee Expertise Leverage Manager, I was on the small panel of cuppers who were qualified to taste and evaluate the coffees they bought. I loved that, but we were in a large, rather industrial setting where we didn’t have our hands on coffee the way I did in previous jobs. I missed that. Then, in August 2018 personal losses and home stresses caused me to resign from Nespresso. A year later, in August of 2019, I finally decided to take the plunge and start my own little roasting company: Sweet Bean Coffee.

Going into roasting has been an opportunity for me to get my hands back onto the primary material that I love. I love coffee, I absolutely adore coffee, and I realized I need to be around the raw stuff.

Where do you buy your green coffee?

I buy from different origins. From the Americas we have Brazil, Colombia and Guatemala. My absolute favourite is Guatemala. From Africa, Kenya and Ethiopia. From Indonesia, Sumatra and Sulawesi, and then of course Papua New Guinea. I couldn’t imagine having a coffee business without Papua New Guinea!

Is it a gift to be able to taste coffee or is it something you can learn?

For me, it’s about discipline and training. I’m half German and grew up with a huge amount of discipline in the household. I attack any work project with this same discipline and concentration. If you’ve cupped coffees as many thousands of times as I have, your palate becomes trained, disciplined and discerning.

I’m not a super taster (people with more taste buds than on average), but I am what’s called a Q grader, qualified for both arabica and robusta. The robusta certification is rare, new and extremely difficult to pass. But then both qualifications are insanely difficult with 22 exams based on tasting, smelling and coffee knowledge.

I’m also on the Board of Trustees for the Coffee Quality Institute that created the certification. I didn’t pass the exams because of that though; I became a trustee after I passed!

What qualities do you need as a roaster?

To roast you need the ability to concentrate intensively for short periods of time. You have to be able to concentrate to the exclusion of everything else because you’re roasting with your senses: your eyes, your nose and your ears. You’re looking for colour. You’re looking for expansion on the beans, you listen to the sounds that the beans make, you feel the beans. Mr. Peet famously said: “the beans tell me how they want to be roasted” and I adhere to that school of craft.

What qualities do you look for in a green coffee?

It depends on the way the coffee will be prepared. Having said that, when I am offered coffees and something exceptional comes along, I buy it anyway, because I’ll figure out later what to do with it.

So, in a Papua New Guinea, I’m looking for a particular flavour profile that has something almost akin to a ripe mango, breadfruit, or jackfruit – tropical fruit notes at their very ripest level. That’s what you can find in a washed arabica from Papua New Guinea.

In a Sumatra by contrast, I look for huge body and cured tobacco leaf aromatics that are particular to the terroir and processing method of Sumatra.

Which are better: blends or single origin?

Blends can bring complexity, but a pure origin can really give you the spirit of the country.

Smell is a powerful memory stimulant. When I roast coffee from Papua New Guinea, it takes me back to walking the streams of the Southern Highlands Province, going trout fishing in the remote bush a day’s walk away from the nearest roads. I am smelling my memories in the bush, going through the coffee rows, the fresh milled crop being bagged for export and so many other memories. That’s the beauty of a single origin; it really transports you to that place.

Which is your favourite coffee and how do you brew it?

PNG is my favourite coffee and I brew it in a French press.

Lastly, where can I buy your coffee?

Normally we are on the market in Carouge in Geneva every Saturday, but since the coronavirus lockdown our website is our main outlet, as well as the VitaVerDura local food home delivery service.  You’ll find a few smaller outlets listed on the website as well. We mainly roast to order, and we deliver.

Thank you, Shirin for your time and input.

© Commodity Conversations ® 2020

This is a short extract of a full interview that will be published in my upcoming book Merchants & Roasters – Conversations over Coffee

Sylvain Bettinelli is Chief Risk Officer for Nibulon, the largest grain exporter from Ukraine. Founded in 1991, Nibulon owns 388 silos and over two million tonnes of grain storage, along with a network of 25 transshipment terminals and an export terminal in Mykolaiv. The company cultivates 82,000 ha of agricultural land in Ukraine.

Before joining Nibulon, Sylvain spent six years with Cargill and five years with Bunge.

Good morning, Sylvain. Could you please tell me a little about Nibulon’s business model?

We are mono-origin Ukraine, and export around 6 million tonnes of grain per year all over the world. We grow around 10 percent of that 6 million tonnes. Of the exports, 40 percent is corn; 40 percent is wheat; and the rest is barley, soybeans and sunflower seeds. We sell about 40 percent CIF and 60 percent FOB. We have more than 7,000 employees.

We are still growing, with a target to export 8 million tonnes within a few years. We only originate out of Ukraine, and we will continue to expand in Ukraine, so we are different from the big international grain traders who are multi-origin.

We have sizeable fixed costs in terms of infrastructure: our own fleet of trucks, of barges and tugboats, as well as storage and export loading terminals. To maximise our infrastructure capacity, we need to export between 500 and 600,000 tonnes each month.

We look to use our infrastructure to earn a margin at every stage through the supply chain. It is a similar model to, say, Cargill in the US. They earn money from the farmer to the port, and not only from FOBS to CIF. It is the same for us.

We also buy when farmers want to sell. We always give them a price. We never tell them that we don’t want to buy. We have to maintain their loyalty if we want them to sell to us the following year.

As you say, it is an origination model similar to a Bunge or Cargill.

Nibulon wanted to implement a state-of-the-art western style of risk management. And that was why I was hired. In terms of risk management, I apply everything here that I learned at Bunge and Cargill.

How do you manage your price risks?

We are first and foremost physical traders, so we always favour physical forward deals when we look at hedging our price risks.

However, we cannot always find physical buyers when we want them, so we supplement this physical trading activity with hedges in the futures and options markets on the CBOT, as well as on the MATIF.

We can only hedge the flat price risk with derivatives. We are left with the basis risk – the difference between the price in Ukraine and the futures prices. We can only ‘hedge’ this basis risk through our physical sales.

Corn is easy to hedge as the correlation between Ukrainian and US corn is very good. The correlation on wheat is not as good. We still use the futures, but we have to be more active.

And then we have products like barley where there is no futures market, and hence no means to hedge. You either have to find a buyer, or you have to take a position and accept the outright price risk.

China and Saudi Arabia are the main buyers of Ukrainian barley. Saudi Arabia buys through tenders. We have to take a risk with these tenders. Either we buy the barley first and go long into the tender, or we have to short the tender and try to cover the physicals afterwards.

Do you use the Platts Black Sea benchmark?

It would be very useful for us in terms of managing our price risk, but as a risk manager I can’t use this new Black sea wheat contract until it is more liquid, and I fear it is the same for other big players. It is a question of the chicken or the egg! Once it is liquid, we will be one of the main users of it!

What risks keep you awake at night?

The only risks that keep me awake at night are the risks that can’t be managed. The biggest is political risk. In 1992, the Ukrainian government imposed an export ban on wheat. It took most exporters several years to work through the consequences of that ban.

The Ukrainian government is currently looking at changing the rules for inland water transportation. If the rules change, it can alter the rationale of former investments. And that is very difficult to manage.

Our other big risk is that we are mono origin; if we were to have a bad crop in Ukraine it would affect us more than it would affect a multi-origin, multinational like Bunge or Cargill, or pure traders without assets. We couldn’t supply our customers with South American or US corn rather than Ukrainian corn. In addition, we need volumes through our supply chain in order to cover those fixed costs and make profits.

The other risks are manageable. We have a refined way of looking at risks on a timely basis, both volumetric and VAR, stress tests etc etc.

Russia has imposed and implemented export quotas on wheat. Is there any possibility that Ukraine would do the same?

Theoretically yes, because it happened less than 10 years ago. But in practice no; we don’t think it will happen. Ukraine is dependent on agricultural exports for both tax revenues and foreign exchange. Besides, the harvest is expected to be very good and we see only a limited chance that dry weather will impact negatively production, so there is no reason to impose export quotas.

It has rained recently in Ukraine; is there still a risk of drought?

It has been dry, but it was never a drought. In the past when we have had a similar dryness, we have lost between 8 and 12 percent of our production. Knowing that, the risk to the coming crop is very limited.

It is true that there has been a lack of rain, but what is crucial is what happens in the next two to three weeks. It has been raining for the past few days, and more rain is expected.

Do you see Ukraine expanding production further?

Improved agricultural yields have been driving our production increases. Ukraine has the potential to increase yields even further before they get anywhere close to yields in Europe or the US. The increase in yields has come through better agricultural practices and increased inputs.

Irrigation has played a major role, but there is a problem of land ownership in Ukraine. When the big state co-operative farms were broken up the land was sold or given to the cooperative members. They only got a small acreage each. Most of the farmers now don’t own the land they farm but lease it on short term leases from the owners. For irrigation you need at least a three-year lease to get a return on your investment. If you don’t own the land you don’t invest in it.

There is legislation moving through Parliament that will allow these small farmers to sell their land to Ukrainian owners first to facilitate the consolidation of these small holding, but land reform is always a sensitive issue in every country. This process could take five to ten years or so to implement.

What is the biggest challenge that Ukraine faces as far as grain exports are concerned?

South American countries have seen their currencies devalue significantly over the past few years, and their grain exports have become super-competitive. That is a challenge for other origins, but we are well placed geographically in the Black Sea to supply the main wheat, corn and barley importers, whether Egypt, Turkey or Saudi Arabia or even Asia.

And what is the biggest challenge that Nibulon faces?

Our challenges are different every year! It is a very competitive business; you can never sleep on your situation whether in terms of origination or exports. Competition is intense every year and we have to fight all the time.

Thank you, Sylvain for your time and input!

© Commodity Conversations ® 2020

Sylvain will be speaking at Commodities Week Online, a free-to-attend web seminar that will be held from 26^th to 28^th May.

J-F Lambert spent most of his career in international banking and trade finance, originally with Crédit Commercial de France, or CCF, and then with HSBC. He is now a consultant on trade and commodity finance and strategy for banks, companies and funds. He also teaches commodity market dynamics at Sciences Po in Paris and regularly lectures at the London Business School.

What has been the impact of the virus, lockdown and oil price war on financing for commodity traders?

As for any corporate or individuals, the challenges caused by the virus and the measures taken to ringfence its dire consequences are massive. With about half the world population in lockdown and most developed economy in a standstill, the shock is enormous.

What makes it even more challenging is that both supply and demand are affected, and that like in a low speed tsunami, the wave eventually reaches every shore.

In such a context, commodity trading faces three kinds of difficulty: a choc of demand, disruption on supply and, if the crisis lingers, increased counterparty risk. Whilst the volatility is high, these uncertainties prevent trading houses from taking full advantage of it.

In rough seas one needs a sturdy vessel. In terms of commodity trading, this means that only large trading houses can cope with the underlying risks: trading risks, liquidity risks in the face of margin calls or payment delays, and counterparty risks. Smaller players should err on caution: if they find themselves on the wrong side of the market, they may lack the financial muscle to absorb the shocks.

Are banks tightening their lending to traders?

Banks are tightening their exposures on every front. With regard to commodity trading, their reaction is to fly for quality, and be quite restrictive on everything else. This means that the ABCD+s will not be significantly challenged as they are able to communicate on their strategy, positions, liquidity and results with their mains banks almost daily if necessary.

Smaller players, unlike larger traders, often have slim liquidity and are often much less equipped to monitor their books and communicate effectively with the lenders. When this is the case, and in the current context, their banks will not be accommodative. In case of doubts or difficulty in assessing the market positions of their smaller customers, banks will not hesitate to reduce their lines.

Why would banks reduce lending to traders now if the traders are not directly exposed to lower prices? Don’t lower prices make things easier for traders as they need less capital?

Unlike producers and end users, traders are not in principle exposed to the flat price. So, in theory you are right. However, in real life things are somehow different. To ring fence the flat price risks, traders rely on hedges, whether on a book or deal basis. In the these volatile markets your hedging strategy is only as good as your ability to pay for margin calls. If you are not able to meet your margin calls, then your hedge vanishes and you are left exposed, potentially facing huge losses. Besides, if the logistical disruption on the supply side and potential counterparty defaults are significant, they could trigger losses both on the hedge and the trade.

For all these reasons banks will stick to robust traders (the large trading houses) and will certainly revisit their exposure to whichever company they might deem to be overstretched.

Have the risks of counterparty defaults increased and, if so, how?

The risk of counterpart default is rising as the crisis lingers. The world economy is in standstill. Oil demand has fallen 30 percent when it has been rising consistently for the past 30 years or so. China’s ability to rebound is a moot point. Europe and America face the biggest economic crisis since WW2. In this context, defaults are bound to happen. Hence the nervousness of banks. Hence the reluctance of insurers to underwrite new businesses.

Are some commodities more impacted than others?

All commodities are affected, whether on the supply side, demand side or both!

Banks have long recognized that commodity trading is a critical activity. Rather than taking a global decision to pull out of one sector or another, banks are taking a close look at their customers and will direct their support to the fittest and most resilient ones. With others the time is not ripe to stage pull-outs, but to endeavour to ring fence their exposure by capping, reducing their limits or strengthening security packages. Strategic decisions will come later.

Finally, is finance the Achilles Heel of the commodity trade – the most vulnerable point of the system?

So far money has not been the issue.  Huge and sudden imbalances between demand and supply, potential logistical disruptions and rising counterparty risks are at the root of the current difficulties for commodity players.

Having said that, the commodity trade relies on other people’s money, in other words: bank money. Unless your bankers are comfortable, you can’t trade. So, my humble advice to commodity traders is to be as transparent and forthcoming as possible with your financiers, whether in calm as well as (and even more so) in rough seas.

As a former banker I cannot emphasize this enough: doubt, misunderstanding and suspicion about a borrower’s business will inevitably lead to the severance of the relation. All the more when we are witnessing the biggest recession since 1929.

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