Concerns About Counterparty Risk Still Remain

Although companies in Asia are usually far less concerned about that risk now than two years ago, they still seem to have nagging concerns.

As Royal Bank of Scotand (RBS) head of transaction banking, Alan Goodyear, told Trade Forfaiting recently: “We are still feeling the impact of the credit crisis and the most obvious change has been the increasing concern over operational, concentration and counterparty risk.”

Singapore Minister for Trade and Industry (MTI), Lim Hng Kiang, also said earlier this year that “there has been greater concern over counterparty risks since the financial crisis. This fear of counterparty default dented global trading and interbank lending activities.”

Reinforcing the concerns about risk, a survey in March by CFO Innovation Asia (CFOi) showed that “a large majority of respondents say their company has been experiencing delayed payments”, and the majority “are more concerned today about late payments or outright defaults compared with before the Great Recession in 2008.”

The concerns seem to stem from several causes.

One issue is where the counterparty is located. With continued economic uncertainty in some countries in North America and Europe, for example, companies with customers in those regions may be concerned about the fallout.

Events such as the earthquake in Japan and uprisings in the Middle East have also increased uncertainties, both about the direct effect and indirect effect on counterparties. After the Japanese tsunami, output dropped in other countries as well, due to parts shortages. For example, Thai electronics giant Delta has stated that profits will remain weak and automobile output is forecast to drop as much as 50%.

Another source of concern, perhaps surprisingly, comes simply from growth. As DBS Bank head of transaction banking Tom McCabe recently told gtnews, emerging Asian companies that “go from doing business in their home country to five or six countries aren’t as well known yet, so they need more banking services to reduce risk for themselves and also for their counterparties in the countries where they want to grow.”

Along with worry about their clients, some companies are also concerned about the strength of the banks they use. Some of the global banks are still in relatively weak positions and corporates are worried about too high a concentration at one institution.

While the vast majority of transactions are completed without problems, companies are still taking a variety of steps to mitigate this risk. Some are simply using standard tools such as letters of credit (LCs).

In addition, though, the CFOi survey also indicated that 40% of respondents are requiring advance payment and 18% are purchasing credit insurance, even though advance payment requirements may make sales more difficult and credit insurance is a relatively unfamiliar concept at many firms in Asia.

Derivative products can be another solution, and MTI’s Lim said the Singapore Exchange (SGX) has started offering a new clearing service for financial derivatives.

To manage their bank risks, corporates are also spreading their relationships. RBS said that one risk solution companies are using is “for treasurers to look at the number of bank relationships they hold, with many becoming much more open to working with more than one bank per region.”

While risks may not currently be unduly high, prudent companies are both assessing risks more carefully than they did in the past and using new tools to manage counterparty risk. Even though these solutions have a cost, corporates can benefit significantly by using these solutions to help ensure better financial results.

24 views

Related reading