Commodity derivatives house of the year: Societe Generale

Structured Products Asia Awards 2017: Investment in time, presence and talent has paid off in a market that has forced out less resilient firms

Olivier Godin, Societe Generale

The exit from commodity trading by once-significant market-makers in recent years has clearly signalled a sea change in the industry, but Asia-Pacific clients of Societe Generale (SG) continue to show a solid appetite for exposure to commodities through structured instruments, the bank says.

“The environment in the commodity sector is better in 2017 than it was in 2016. There is more volume and more client interest in trading the assets. We have found good payoff for our clients,” says Olivier Godin, head of commodities for Asia-Pacific at SG.

SG has been on hand throughout the region to satisfy that interest, but it has also explored new territories. The bank’s keenness to understand local clients’ needs and the conditions in which they operate attracted praise from the judges in this category. “Investment in local set-up has enabled SG to be closer to its clients and to better understand the evolution of regulatory frameworks. They have developed client-oriented solutions for investors to better fine-tune their risk/return strategy,” observed one.

One such instrument was a six-month knock-in/knock-out autocall note on Brent crude that was denominated in US dollars and sold to Thai investors. The bank has been trying to develop its entire South-east Asian franchise, and penetration of Thailand has been part of this strategy, notes Godin.

SG invested 12 months in educating the country’s investors about commodity-linked investments, while it got to grips with the exigencies of the Thai market. The bank learned that there was interest in simple products tracking the major indexes, such as those for gold and oil.

Local regulations had recently been relaxed to allow domestic investors to take a greater exposure to offshore products. Consequently, SG sold the first note with this structure in November 2016 and has now sold around $50 million to asset management firms in Thailand.

The bank is well represented in most of the countries throughout the Asia-Pacific region, though it would like to do more business in Australia and Japan, says Godin.

“I am interested to see how China can be a game-changer in the region. There is a great deal of exposure to a range of commodities,” he adds.

As well as SG’s zeal for exploring new markets, it brings considerable technical expertise to the table. For instance, it has developed a futures accumulation strategy for physical cocoa traders in Singapore looking to hedge their exposure to two different exchanges in London and New York. Not only does this involve managing the spread between the two exchanges, but there is also the currency risk between sterling and dollars to be hedged.

“This is tricky to hedge and complicated to price. Very few of our competitors could do it,” says Godin.

Although Japan is one of the few countries in the region that doesn’t place lots of onerous regulatory constraints upon investors, the memory of 2008/09 still looms large and restrictions do exist. In November 2014, for example, the Japanese Securities Dealers Association (JSDA) introduced a new rule, applicable from 2019, which limits credit exposure to a single counterparty to no more than 10% of a fund’s value.

In direct response, SG introduced a commodity-linked note that was 110% collateralised by US Treasuries, thus seeking to mitigate issuer credit risk. So far, the bank has sold between $100 million–$150 million of the notes to one large client that is seeking to comply with the JSDA rules before 2019.

Around 85% of commodity-linked products bought by investors in the region are based on oil, gold and silver, according to SG. There is more limited appetite for exposure to second-tier assets such as copper and aluminium, and occasionally for palladium, platinum, coal and gas – but only as components of basket of several commodities.

Crude has bounced up from a little more than $30 a barrel a couple of years ago to around $50 today, and although volatility is low there is greater interest in the oil market. In late 2016, SG unveiled the SGI Dynamic Crude Products Index, which automatically switches exposure between refined futures and crude futures depending on the shape of their respective curves. This avoids some of the negative roll consequences of an upwardly sloping forward curve. For example, if the crude curve is in contango – when spot prices are lower than the forward price – positions will be rebalanced to incorporate a larger component of refined products. The bank declines to say how much has been sold.

Although SG has noted a tick-up in interest in the sector over the past 12 months, the commodity-linked structured products market in the region is gradually moving to more standardised, less risky products. This is in large measure due to the shrinking pool of major market-makers and the fact that positions are harder to hedge as trading becomes more attenuated.

Many banks have left the sector. According to analyst firm Coalition, income derived by banks from commodities has almost halved since 2011, when it was in excess of $8 billion.

The biggest task facing banks in the Asia-Pacific region, says Godin, is “getting investor interest in the asset back to where it was 10 or 15 years ago”.