SINGAPORE (Apr 24): Nick Leeson, the trader who blew up Barings Bank in 1995, was fond of Harry’s Bar in Boat Quay. He used to sample the cocktails to take the sting out of the day.
He had a constant worry in those steamy evenings in the bar. Leeson needed to cover his tracks. The US$1 billion of losses that he hid in February 1995 were not the first time that he had engaged in these practices.
It was just that a vile series of events — including the Kobe earthquake tanked the Japanese market — that made it impossible to hide his misdeeds.
Hin Leong Trading, an oil trader owned by Singaporean billionaire OK Lim, is facing bankruptcy with debts of US$4 billion ($5.71 billion). The private company is seeking protection from creditors. If this is granted, Hin Leong will have two weeks to work out a restructuring programme with the banks.
Like Nick Leeson, OK Lim has been hiding US$800 million losses for years, according to his affidavit. He had instructed his finance department to camouflage the trading losses by placing it in the receivables. It was done so well that it took an unprecedented commodity collapse to bring the misdeeds to light.
Hin Leong — which means ‘prosperity’ in Chinese — is a titan in the bunker fuel field. It has risen in tandem with Singapore’s emergence as one of the world’s busiest ports. It was founded in 1963 by Lim, who first began supplying ships with marine fuel by driving his own truck.
Bunker fuel prices have fallen 65% YTD, as many ships are stagnant with trade coming to a halt. Hin Leong was not hedged against the rout.
Commodity traders play a similar role to DHL and FedEx. They are the delivery boys of the commodity world. During the decade-long commodity bull run that began in 2004, traders were coveted by investors as Singapore is a major centre for commodity traders. There are tax incentives for traders that establish their global headquarters in the city-state.
Several commodity traders such as Wilmar International, Olam International and Noble Group are listed on the SGX. These traders carry inventory, which may be exposed to the commodity collapse.
The earnings of commodity traders were said to be protected from commodity swings as earnings growth would be driven by a volume expansion. Investors thus coveted commodity traders such as Wilmar, Glencore and Noble.
However, the enthusiasm was misplaced and this error is now being exposed by the commodity rout.
Actually, the profits of commodity traders are intensely correlated with the commodity price. Between 2004 to 2014, the S&P Goldman Sachs Commodity Index (S&P GSCI Index) rose two and a half times. The operating profits of the major commodity traders such as Noble, Glencore and Olam increased on a similar scale. Since 2014, operating profits have fallen by an average of 34% in the peer group, as the S&P GSCI Index has dropped 59% in the past six years.
Commodity traders profit from the spread between a seller and buyer of a commodity. The spread may be steady in proportionate terms. However, it will vary in absolute terms with the swings in commodity prices.
The risks in the business can be contained if the trader restricts itself to the role of middleman. However, vulnerabilities arise when a commodity trader speculates with its inventory.
The difficulty arises when a commodity trader speculates on commodity prices — it is dangerous because the prices can be violently volatile, as Hin Leong’s travails show.
The dirty secret of the bunker fuel traders were on display to Singaporean investors when Chemoil Energy, a bunker fuel trader, listed on SGX in 2007. It was founded by Bob Chandran, a businessman from India who had the swagger and drive of a Texan oilman.
Chandran had the wisdom to transform Chemoil Energy from a trader to an operator of bunkering facilities in Los Angeles, Fujairah and Singapore. But, Chemoil Energy also carried about two weeks of inventory on its books. Still, it actively traded this inventory. Within two quarters of its listing, trading losses shook the business.
Investing in some commodity traders have similar risks to investing in a gambler. They outperform in bull markets but can unravel in a collapse. It is no wonder that Leeson sought solace in Harry’s cocktails, while he fretted about the losses that he hid.
Nirgunan Tiruchelvam is head of consumer sector equity at Tellimer (Exotix Capital)
