Why is financing commodities perceived to be risky?
There are a number of risks inherent in commodities that can make financing them risky. E.g.
- High primary production risks
- Significant investments are required for energy and mining assets
- Agri commodity production is often subject to weather risks and diseases
- Commodity finance involves significant exposure due to the bulk quantities involved (production, trade volumes)
- Price volatility
- Commodity finance creates P&L volatility for the processors as they are exposed to price volatility on their raw materials and may not be in the position to adjust the sale price of their products as quickly.
- There is less impact, though, on commodity traders, unless they have taken a position. The difficulty is that the net trading position is not always known to the financier.
- Non-financial risk is deemed to be high
- Production/trade involves difficult locations that are perceived to be more risky from a (i) environmental, social and corporate governance (ESG) perspective (e.g. artisanal mining, child labour, forest clearing, social oppression), (ii) FEC/AML perspective – e.g. bribery, corruption, money laundering, fraud
- Complex – as it involves multiple parties in the transaction, and typically involves cross-border jurisdictions.
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