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Singapore

Hin Leong faces bankruptcy as Covid-19 strikes commodity traders

  • Hin Leong Trading, an oil trader owned by Singaporean billionaire OK Lim, is facing bankruptcy with debts of US$4bn

  • Commodity traders face serious vulnerabilities in the current rout

  • We reiterate our SELL recommendation on Wilmar

Hin Leong faces bankruptcy as Covid-19 strikes commodity traders
Nirgunan Tiruchelvam
Nirgunan Tiruchelvam

Head of Consumers Equity Research

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Tellimer Research
20 April 2020
Published byTellimer Research

“It is only when the tide goes out that you discover who’s been swimming naked”. - Warren Buffett 

Covid-19 has claimed its first victim among commodity traders. Hin Leong Trading, an oil trader owned by Singaporean billionaire OK Lim, is facing bankruptcy with debts of US$4bn. The privately held company is seeking protection under the Singaporean companies act.

Hin Leong is one of the world’s largest traders of marine fuel, which is used ships. Bunker fuel prices have fallen 65% YTD, as airlines are grounded and shipping stagnant. The Marine Fuel price is one of the commodities worst affected by Covid-19.

Hin Leong was founded in 1963 by OK Lim, who has a net worth of US$1.5 billion according to Forbes. Hin Leong has announced that it is seeking bankruptcy protection under the Singaporean company law. If this is granted, Hin Leong will have two weeks to work out a restructuring programme with the banks.

According to the Financial Times, Hin Leong’s creditors include HSBC (US$600mn) and ABN Amro (US$300mn). Three Singaporean banks have a collective exposure of US$680mn.

Commodity traders have been severely exposed by the commodity collapse. Oil, the sacred cow of commodities, is down 52% from its peak. 

Singapore is a major centre for commodity traders. The government offers tax incentives for traders that establish their global headquarters in the city-state. 

Several commodity traders such as WIL SP, OLAM SP and NOBL SP are listed on the SGX. These traders carry inventory, which may be exposed to the commodity collapse. We have a Sell recommendation on WIL SP due to serious vulnerabilities in its model.


Major Singapore-listed commodity traders

 Inventory(US$)Major Commodities 
Wilmar (WIL SP)

6.2

Palm oil, Soybeans, Sugar
Olam (OLAM SP)7.2Coffee, Pulses, Cocoa
Noble (NOBL SP)
0.16
Coal, Iron ore
China Aviation Oil (CAO SP)
0.06
Jet Fuel
Source: Bloomberg


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 than began in 2004, commodity traders were coveted by financiers and investors. 

Their earnings were said to be immune to commodity swings, as earnings growth would be driven by an expansion of the scale of their operations.

However, the enthusiasm of investors was driven by several misconceptions. These misconceptions are now being exposed by the commodity rout.

Myth # 1: They are commodity price neutral

Reality: The profits of commodity traders are correlated with the commodity price. In 2004-14, the S&P Goldman Sachs Commodity Index (S&P GSCI Index) rose 2.5 times. The operating profits of the major commodity traders such as Noble, Glencore and Olam rose by a similar magnitude. Since 2014, operating profits have fallen by an average of 34% in the peer group, as the S&P GSCI Index has fallen 59% in the past six years. 

Commodity traders generate operating earnings from the spread between a seller and buyer of a commodity. The spread may be resilient in proportionate terms. However, it will vary in absolute terms with the swings in commodity prices.

Myth # 2: They are transparent because commodity prices are easily accessible 

Reality: Commodity traders are often shadowy entities. Marc Rich & Co., Glencore’s predecessor, first established its reputation by supplying commodities to pariah regimes such as Israel and South Africa in the 1970s. Marc Rich died in exile in Switzerland after spending most of his last years as a fugitive from American justice. 

Other commodity traders such as Olam and Wilmar were family enterprises far from the attention of stock markets. It was only when the scale of their operations required a listing that they tapped the public markets.

Myth # 3: They are operators not traders

Trading in commodities need not necessarily be a risky business so long as the trader nets off its trades with buyers. If so, the trader can generate a predictable stream of earnings.

The difficulty arises when a commodity trader speculates on commodity prices. It is dangerous because the prices of commodities can be extremely volatile, as Hin Leong’s travails show.

Wilmar's pre-tax earnings from refining have little correlation to the refining margins of the palm oil processing industry. It is likely that its profits are a function of fortuitous trading rather that processing. 

Investing in some commodity traders have similar risks to investing in a well-connected gambler. With every successful quarter, the risks of a black swan event escalate. They outperform in commodity bull markets, but can unravel in a commodity rout.