TLDR: Commodity & Finance: A match made in heaven or not?
Today’s article explores the concept of commodity finance, highlighting its definition and how it works. Commodity finance involves the financing of physical goods and has been a part of trade for centuries. The basic model of commodity finance involves a borrower reaching out to a lender with a trade transaction to buy goods, which are then sold to a buyer. The borrower’s own money, combined with the loan from the lender, is used to cover the supplier’s bill for the goods. Once the goods are received by the buyer, they pay for what they’ve received, and the proceeds are used to repay the loan. Commodity finance relies on the self-repaying feature of trade transactions.
Commodity finance has the potential to lower the loss given default (LGD) and reduce risk for lenders. Banks have the administrative tools to calculate the risk weighting of assets and can mitigate risk through security. However, there is a trade finance gap, with trade finance not financed by banks reaching $2.5 trillion in 2022. It is estimated that if banks set up a framework for proper recognition of collateral, there could be an earnings potential of $50-200 billion for them in commodity finance. Commodity finance is in the industry’s DNA and it has the potential to function smoothly and efficiently with the right support.
Commodities and finance have a natural connection, and while they are not yet a perfect match, they have the potential to bring us to where we want to go in the future. Trade Finance Global is knowledgeable in commodity finance and ready to support the market in functioning as efficiently as possible.