Will the Internet E-Volutionize Trade Finance?
Striano, Riceardo, Business Credit
While the Internet and e-commerce have created paradigm shifts in the functionality and liquidity of many financial markets, trade finance has, for the most part, remained unaffected. In fact, buying, trading and selling commercial trade finance instruments, trade-related commercial paper, vendor loans and syndications have not changed much over the past 50 years. Fax, telex and overnight mail are still the primary transaction modes.
So why hasn't the "e-commerce revolution" impacted the trade finance arena as of yet, and what is holding it back? Further, what looms on the horizon for an "e-volution" of the trade finance business?
First, some perspective: Global trade overall has been growing at an estimated $250 billion per year. International trade finance is conservatively estimated at $700 billion per annum. Much of the paper lies on the balance sheets of banks or companies that originate financing.
Despite the growth of this robust global trade market, the trade finance industry faces some challenges. The business has traditionally been supported by merchant bankers, commercial bankers and specialty financiers. Typically, banks and companies that conduct trade finance business do so on a one-to-one relationship basis with buyers and sellers relying on their own networks. However, mergers, acquisitions and losses as a result of regional economic crises in Asia and Latin America, for example, have meant fewer trading partners. As a result, the market has contracted, fragmented and become less liquid, making it more difficult to match trade finance needs with investment capital seeking opportunities. As a result, asset sellers and buyers are now spending more time and working harder to find a matching opportunity. This, in turn, increases the transactional costs.
In addition, unlike other fixed income markets, trade finance market practices and conventions vary greatly. They also currently lack standardized clearing and settlement procedures, such as those utilized by Euroclear and Clearstream, for example. Without a clear leader (no bank controls more than 5 percent of the trade finance marketplace), trade finance documents are developed internally, absent of any uniform standards. Document language varies greatly, which also increases transaction costs. It is then incumbent upon the buyer and seller to individually tackle the mountain of paperwork to trade these instruments.
Because the trade finance marketplace has failed to standardize, modernize and define specific market practices, it has yet to attract the largest pool of fixed income investment capital-the traditional fixed income investor market, further hampering growth opportunities.
The Internet itself, until recently, also posed limitations for development of the type of sophisticated system necessary to facilitate an end-to-end solution. Security standards have just recently evolved. Online trading and auction platforms are just a few years in existence. And the availability of bandwidth, while not an issue in highly developed countries, is often sparse in areas where much import/export finance activity takes place, such as emerging markets.
New Directions for the Trade Finance Industry
With the convergence of market opportunities and technology, however, a more secure and standardized approach can now emerge to match capital with investment opportunities. But what will a successful Internet trade finance platform need to provide to attract the traditional fixed income investor market?
* Greater Liquidity--The Internet is an ideal platform to bring together a large number of participants quickly and inexpensively. Current auction technology allows a large number of global participants to compete in a secure and transparent competitive auction environment, improving pricing efficiency and access to market. In addition, one site could become the "e-bay" for trade finance with parties seeking to buy or sell trade assets. …