Navigating trade finance: how should banks monitor suspicious shipping activity?

A number of news stories in 2017 detailed the radical methods being employed to evade sanctions controls, for example, through the transfer of commodities from ship-to-ship in international waters to avoid a vessel entering a sanctioned territory.  This trend appears to have continued into 2018, with a recent case emerging in which a ship-to-ship transfer took place in a narrow strait between Crimea and Russia.

This latest report concerns the transportation of iron ore from Norway to Crimea by the vessel HHL MISSISSIPPI. A review of satellite data has uncovered that the vessel sailed to an anchorage zone within the Kerch Straits (between Crimea and Russia), where a series of smaller vessels then pulled up alongside it and transferred its cargo, discharging it at the port of Kamysj-Burun in Crimea.

Crimea is included on the OFAC sanctioned list and Norway, where the cargo was originally loaded, is a signatory to the EU Russian Sanctions Act of 2014. The delivery of this iron ore cargo therefore appears to be illegal.

This example throws up a number of questions; how is this type of activity regulated, who should take responsibility for monitoring the movement of cargo as part of a trade transaction, and how can the rules be enforced to prevent further illegal activity from occurring?

Regulation and the role of financial institutions

According to the trade finance principles published by the Wolfsburg Group, ICC and BAFT in 2017, financial institutions have a significant role to play in addressing the risks of financial crime associated with trade finance activities and aiding compliance with national and regional sanctions and embargoes.  Additionally, agencies such as the Monetary Authority of Singapore (MAS) and the Hong Kong Association of Banks (HKAB) have issued compliance guidance to financial institutions undertaking trade finance activity.

The guidance paper published by the Monetary Authority of Singapore (MAS) was released in October 2015 and focused on identifying and managing red flags and risks in trade finance and correspondent banking.  This paper outlined the major areas of attention to monitor as well as the best practices that banks and financial institutions should deploy, to ensure they act in compliance.

Similarly, the Hong Kong Association of Banks (HKAB) released its guidance paper on combatting trade-based money laundering in February 2016. In a similar vein to the MAS, the HKAB paper detailed some key areas of consideration for financial institutions to monitor in order to improve their trade compliance practices.

Whilst the agency guidelines from the Monetary Authority of Singapore (MAS) and the Hong Kong Association of Banks do not specifically mention ship-to-ship transfers as in the HHL MISSISSIPPI case, they do highlight the need for trade finance providers to monitor vessels’ journeys, to ensure they do not breach any sanctions.

Applying the principles in practice

Financial institutions must take a proactive approach to monitoring every element of a trade, which means not only understanding the companies involved, but also the goods, transportation, locations and beneficiaries connected to the transaction.

The MAS and HKAB guidance, when broken down, offer the following best practices and areas for financial institutions to prioritise when dealing with the shipment of commodities.

Risk Assessment – financial institutions should conduct a comprehensive review of their trade finance business, including the potential for financial crime relating to their customer base, geographical locations and products offered, and ensure the relevant controls are in place to mitigate risk.

Customer Due Diligence – financial institutions must check a customer or any instructing party involved in a trade finance transaction and enable the appropriate due diligence; checks on perceived ‘high risk’ customers should be the most extensive. The following should be reviewed:

• Customers’ trading partners
• Nature of the goods and their potential dual-use (military and civilian)
• Country of origin
• Vessel name and IMO number
• Details of vessels - such as flag, journey history, name history
• Beneficial ownership of the vessel and checks on the shipping company
• Port of loading and discharge of the vessel
• Agents or third parties involved in the transaction
• Ports of call of the vessel for the particular transaction flow (origin port, destination port)
• Recent voyage history of the vessel and whether it has docked at any embargoed countries during previous voyages

Audit Trail – financial institutions should ensure that documentation of the review process for screening hits is well maintained and accessible. Justification for closing off screening hits as false positive hits should also be properly documented to facilitate second-level post-transaction reviews and audits.

Dual-Use Goods – financial institutions should determine whether the underlying goods being financed are embargoed goods and there should be special attention paid to dual-use goods. At the very least, a bank should have a process in place to identify any dual-use commodities and escalate them, for further review.

The MAS and HKAB guidelines are the basis for an effective trade compliance solution covering the shipment of commodities. Financial institutions should be seeking to implement such guidelines within their day-to-day operations as a means of remaining compliant with the shifting and expanding landscape of global regulation.

Conclusion

In the case of the shipment of iron ore from Norway to Crimea by HHL MISSISSIPPI, it is not known whether the financial institutions financing the trade had the appropriate screening capabilities set up to notify them of any illicit activity. However, in practice, with the right technology implemented, a trigger could have alerted any concerned parties when the vessel entered a Crimean anchorage zone or port. That financial institution would then be in a position to quickly take action, follow the correct procedure to report any suspected breaches of regulation, and protect itself from involvement in any wrongdoing.