As the world economy faces severe headwinds, banks stand at the crossroads of rigorous regulatory requirements and an escalating demand for trade finance on the back of soaring inflation rates.

Concurrently, capital restrictions continue to hinder banks’ ability to fund trade finance deals, resulting in further exacerbating the global trade finance gap.

However, as banks rethink their risk exposure, trade finance asset distribution steps into the spotlight as the key to reversing the tide. By extending their reach to non-bank investors, banks are not only mitigating risk but are also opening up new avenues of much-needed liquidity into the trade finance ecosystem.

At the ITFA annual conference in Abu Dhabi, TFG’s Mark Abrams spoke with Nishit Kumar, Senior Director, Head of Loan Syndications, Sales and Distribution at Mashreq Bank, and Kamola Burikhodjaeva, Executive Director, Head of Americas Distribution at J.P. Morgan.

Together, they take a look at the role of trade finance risk distribution against the backdrop of prevailing market conditions, and the role of trade finance as an asset class.

Facilitating win-win transactions

Amidst shifting macroeconomic conditions, trade asset distribution is a pivotal strategy for banks to effectively manage risk, optimise capital usage, and enhance liquidity.

Burikhodjaeva said, “Given the current market conditions, the high base rates, increased liquidity premiums and risk-weighted asset (RWA) constraints the banks are facing, the role of distribution is becoming increasingly critical and important.”

In addition, trade asset distribution is not only about risk mitigation; it also creates opportunities for all parties involved. From banks to participants and clients, each entity stands to gain. For instance, distributing banks enhance their risk profiles, potentially reduce their RWAs, and improve returns.

At the same time, participating banks seize the opportunity to deploy their limits and enhance revenues without the need for origination activities.

Burikhodjaeva highlighted, “Banks do not only redeploy the capital for larger or multiple transactions, but they also give the opportunity for the client to bring on their other relationship banks into the program with the lead bank. It is a win-win situation for everyone involved in a transaction.”

Beyond the traditional risk participation structures, alternative methods come into play, such as leveraging insurance for risk mitigation and Multilateral Development Banks (MDBs) guarantees.

Burikhodjaeva noted, “We see more banks entering the insurance area and using insurance as a risk mitigation tool.” Furthermore, the role of multilateral development banks proves crucial in terms of risk distribution.

According to Burikhodjaeva, “The guarantees of the multilateral development banks are one of the most efficient ways to de-risk, from a capital perspective at least.” 

Their trade facilitation programmes, aimed to promote trade flow to and from emerging markets and developing nations, contribute to a more stable environment for investments in developing countries and unlock wider access to finance.

Kumar pointed out the recent remarkable surge in banks’ distribution of trade assets. He attributed this trend to the current market conditions and the rising inflation rates, resulting in a significant surge in the cost of goods and the demand for trade finance, especially for imports. 

Further, stringent measures to curb inflation have led to higher interest rates and less favourable economic forecasts, particularly for developing markets. 

This has consequently dampened the risk appetite of originators and current risk participants due to the economic strain on importing countries, prompting the need to expand distribution networks to bridge the growing disparity between demand and supply. 

In line with this, Mashreq has broadened its outreach, extending beyond bank-to-bank distribution models with its biggest share of distribution with insurance companies and development finance institutions (DFIs) rather than only banks. 

“While insurance companies have turned to be big supporters of trade in countries like Bangladesh, in certain B- and below-rated, countries like Nigeria, Egypt, Kenya and Pakistan, we see a higher proportion of support coming from DFIs rather than other investors,” he added.

Narrowing the gap through trade finance distribution

To date, trade finance distribution has primarily been a bank-to-bank market, with banks using it as a tool to manage country and buyer limits between them. However, with the current trade finance gap set at a record $2.5 trillion, introducing institutional capital to the trade finance market has become imperative rather than simply good to have. 

There is now a clear recognition and demand for opening up the trade financing ecosystem in order to narrow the trade finance gap and support global supply chains, particularly in emerging markets. Consequently, banks are now increasingly distributing their trade finance assets to institutional investors, supported by new technology and a growing interest in the asset class. 

Kumar noted, “While the general view is that trade assets are getting distributed only to banks, I don’t think that’s any longer the case, especially in emerging markets.” According to Kumar, banks would typically take up to 1/3rd of the total distribution undertaken by Mashreq, with the remaining appetite coming from insurance companies and DFIs. In this case, the role of DFIs is expected to further increase if macroeconomic struggles persist.

Evidently, innovative technologies have played a major role in disrupting the financial sector. These virtual venues have not only facilitated efficient alternative financing transactions in recent years but have also expanded the size of the overall financing pool creating more opportunities for all parties to achieve their financial objectives. 

That’s why Kumar stressed the importance of fintech interventions to streamline processes in a heavily paper-based industry, stating, “There is no way possible that you can manage everything manually. There are a lot of paper exchanges, KYC, and a lot of processes which I don’t think can be managed manually any longer.” 

Kumar said that as distribution volumes go up and the number of participants increases, the role of digitisation becomes more important. Meanwhile, as data further accumulates, there is an increasing scope to build advanced analytical tools in the future.

By digitising core trade finance processes, banks can leverage trade finance distribution and drive greater involvement of alternative investors to create additional capacity. He affirmed, “It’s always creating that extra capacity. Besides being a risk mitigation tool, distribution also creates extra capacity.”

Shifting trends: The rise of alternative lending and investing

From inflation, and rising interest rates to geopolitical conflicts, the challenges impacting the business environment continue to grow and so does the demand for innovative trade finance structures. 

From a global perspective, Burikhodjaeva noted, “We definitely see new trends, new structures of the deals, new investor market and new players coming into the secondary market.” One trend is the surge of non-banking financial entities, such as trade finance-focused funds, stepping into the roles once exclusive to banks in risk distribution and participation. 

Likewise, institutional investors such as asset managers and private equity firms are increasingly drawn to the trade finance assets market. The short-term and self-liquidating nature of trade finance assets makes them a safe bet for investors especially given the sector’s long-standing history of consistently low default rates. 

Another trend is the shift away from conventional master risk participation agreements (MRPAs) towards partnerships. Larger transactions now call for greater structural complexity, prompting banks to explore partnership models, a change from the prevailing loan syndication structure towards trade syndication. 

Moreover, the maturing of the fintech sector has prompted banks to focus on delivering tech-driven solutions, especially for ESG-related products and investors showing a greater interest in ESG-related initiatives to meet their institutional targets. 

Burikhodjaeva highlighted, “We see investors getting more interested in participating in ESG-related transactions, and that will help to meet their targets. We also hear a lot from the banks asking for ESG-related transactions. It’s a win-win situation for both parties.”

Turning to the MENA region, Kumar acknowledged the rising interest from non-banking entities in trade finance distribution. While still in its early stages in the region, Kumar emphasised the importance of developing this new investor class, especially in light of the widening trade finance gap. 

In addition, further innovation structures need to be developed in order to access new liquidity. In this context, he referenced Mashreq Bank’s trading company, Shorouq, which has facilitated nearly $10 billion in prepayments and how this was distributed by the bank, stating, “More than 60% to 70% of that has been successfully distributed to banks in Asia as well as in the Middle East.”