These firms must fundamentally reassess their anti-crime regime, said the Financial Conduct Authority (FCA) as it promised to step up policing efforts. But experts say trade finance firms also lack the skills and technology necessary to achieve adequate compliance.
Trade finance covers a variety of instruments that support international trade, including credit, factoring, and insurance. These mitigate risks such as currency fluctuations, political instability, non-payment, and counterparty default. But the complex nature of trade finance leaves it open to abuse by international criminals.
A “dear CEO” letter from the FCA to trade finance providers said it found several failures in the anti-financial crime regimes of companies it inspected recently and warned firms to increase their efforts.
This follows several high-profile failures of trade finance firms over the last 18 months, with significant financial losses.
Trillion dollar losses
According to the World Economic Forum, money laundering has become such big business criminals are increasingly turning to international Trade-Based Money Laundering (TBML) to clean the sums involved. In developing countries, TBML and associated tax evasion contributed to almost $9 trillion in losses between 2008 and 2017, said the WEF.
The case of seafood import and export business Shuoyu USA Inc, from April this year, is just one recent example of the complex web of international trade deals criminals use to launder millions. Several European, American and Chinese banks provided accounts to the individuals involved.
The case reflected a growing concern among regulators and standards-setters globally about banks’ difficulties with detecting TBML.
The FCA’s letter recognised the inherent risks in trade finance activity, given its complex, global nature with large trade volumes in multiple currencies. But the regulator’s recent assessments of individual firms highlighted significant issues around financial crime controls that exposed firms to unnecessary risks.
It often found insufficient identification and assessment of risks, such as around dual-use goods or fraud potential. Firms had not adequately evidenced their assessment of mitigating controls or recorded their rationale behind risk levels. Assessments have been too generic to accurately cover the risks in client relationships, affecting the due diligence required.
The FCA also found that firms failed to fully assess transaction risks or evidence their checks; or they discounted these risks inappropriately. These failures can lead to insufficient due diligence such as for pricing checks, vessel tracking and document verification.
If they haven’t already, trade finance firms should holistically assess their financial crime risks, including in money laundering, sanctions evasion, terrorist financing, and fraud, said the regulator. This assessment should consider all the issues in the letter and identify customers or transactions that need enhanced due diligence.
The letter also contains guidance and expectations around transaction approval, transaction payments and counterparty analysis; and listed further failings found in these areas. The FCA indicated that it would ramp up its monitoring of all these areas to ensure compliance.
A growing international problem
Dev Odedra, independent anti money laundering (AML) expert, said: “This letter shouldn’t come as a surprise to firms, as the FCA published a thematic review of trade finance crime risks in 2013. While there are many experts in trade finance and financial crime separately, those sufficiently versed in both are in shorter supply.
“It is also not surprising that the regulator found shortcomings around dual-use goods – this area has been less understood and under-appreciated in some banks. However, it is surprising that fraud potential risks have been called out. That should be much better understood, as fraud is a known problem in trade finance, for example around use of false documents.”
Odedra said institutions need to respond by taking a step back and ensuring they understand their financial crime risks fully and realistically. They should read or reread the Joint Money Laundering Steering Group (JMLSG) guidance on this issue; then Trade Finance Principles, by the International Chamber of Commerce.
But Odedra warned companies not to rush fixes that appear to show action, but which may not address the real risks.
In March 2021, the Financial Action Task Force provided a helpful list of trade finance red flags to watch for. It also encouraged firms to cross compare data, including on financial transactions; customs; market prices; due diligence information; and financing methods.
Using technology to meet compliance challenges
The regulator’s increasing scrutiny makes it more important for companies to invest in AML and know your customer (KYC) technology that screens and onboards trade finance client activity using a risk-based approach.
Automated solutions can help by dramatically improving accuracy in spotting red flags. They help AML analysts accurately report their findings to regulators without any blackbox technology they cannot explain. Automation can speed up processes, but also gives users results they can understand and prove with a clear rationale behind each compliance decision.
This rationale is now crucial for meeting FCA requirements, and your AML/KYC solution should enable you to provide credible, tangible proof of your findings in every step of the process.
Trade finance must step up to the challenge posed by TBML, but the right technology makes risk management and compliance more effective and efficient, while also reducing business risks.