Sukuk's strong start.
2011 is in danger of losing its tagline as Sukuk's golden year. Sukuk issuances in the first quarter of the year doubled to reach record $43 billion worldwide - nearly half of the whole of 2011, with Saudi Arabia and Malaysia taking the lead. In fact, The GCC and Malaysia are expected to dominate the Sukuk market this year, although the dynamic within the GCC is changing. In a surprising turn of events, Saudi Arabia, long dubbed the sleeping giant of Islamic finance, overtook the UAE to become the largest issuer of Sukuk in the GCC.
While the UAE raised some $1.9 billion through Sukuk in the first quarter of 2012, Saudi Arabia raised $6.4 billion. "UAE's position as the top Sukuk issuer in the GCC was shaken for the first time. Yet, the UAE had its share of firsts. Tamweel, First Gulf Bank and Emirates Islamic Bank sold Sukuk.TheywerefollowedbyMajidAl Futtaim Group's first foray into bond issuance in the form of Sukuk. And Abu Dhabi National Energy Company sold its first Sukuk in Malaysia," Adnan Halawi, Team Leader - Fixed Income at Zawya, said in a quarterly bulletin.
More recently, Nakheel announced that it is set to launch the second tranche of its AED 4.8 billion Sukuk, to be issued to its trade creditors by the end of April, according to its Chairman
Ali Rashid Lootah. The developer of palm-shaped island issued the first tranche of the five-year Sukuk worth AED 3.8 billion to its trade creditors in the last week of August 2011.
"The second tranche... will be launched at the end of this month, it will be on the same terms and listing will be done as soon as possible," Lootah said, adding that the Sukuk would be listed on Nasdaq Dubai. The Sukuk is part of the Dubai- based company's $16 billion debt restructuring deal, which repays trade creditors 40 per cent in cash and 60 per cent via the Sukuk.
However, the UAE has a long way to go to catch up with Saudi Arabia, especially since Banque Saidi Fransi's offering has been hailed as a trailblazer for things to come. In late April, Banque Saudi Fransi filed a base prospectus for a $2 billion Sukuk programme with the London Stock Exchange. The offering breaks the mould as Saudi institutions have traditionally issued Sukuk through the domestic market, including Bank Aljazira, Saudi Hollandi and, most recently, Saudi British Bank.
According to its prospectus, Citigroup, Credit Agricole, Deutsche Bank and Saudi Fransi Capital are arrangers and dealers on the programme which will follow a Wakala structure. The trustee is Cayman Islands-registered BSF Sukuk, which will use proceeds from each series of certificates to purchase Ijara and other income-generating Shari'ah- compliant assets from Saudi Fransi.
Saudi Arabia owes much of its success to the grounding-breaking $4 billion equivalent riyal-denominated Sukuk issued by the General Authority for Civil Aviation (GACA) in January. The Government-backed Sukuk, on which HSBC acted as arranger, is the largest single tranche Sukuk to date.
"We increasingly expect that businesses consider Sukuk as a reliable and permanent source of capital (in Saudi Arabia) ... and the number of investors and the appetite for Sukuk is growing," said Muhammad Farhan, Head of Islamic Finance at HSBC Saudi Arabia.
"Saudi Arabia was the star of the first quarter. In the absence of any conventional bonds out of the Kingdom, a flurry of Sukuk made the headlines. In line with analyst expectation that the issuance of the first sovereign Sukuk in the kingdom would set the benchmark and trigger more issuance, GACA's $4 billion Sukuk was shortly followed by a series of Sukuk by Almarai, Saudi Electricity - which sold its first global Sukuk - and Saudi British Bank," Halawi said.
YIELDING GOOD RESULTS
This strong start to the year is unlikely to simply be a spill over from last year's success. HSBC believes that Sukuk issuance will be continue to be stimulated by a tightening of yields versus conventional bonds as banks chase a finite amount of quality Sukuk instruments.
Average yields on dollar Sukuk in the secondary market are currently about half a percentage point lower than for conventionalMiddleEastbonds,HSBC said in a report, which presents an opportunity for Gulf issuers.
The tightening spreads are a result of high demand for Sukuk and a lack of supply to satisfy the liquidity available at Islamic banks in the region, it said. "Mid-investment grade range is preferred" by investors, said Rafe Haneef, Managing Director of Islamic global markets at HSBC, with liquidity becoming scarcer for high- grade issuance.
While global sales of Sukuk have more than doubled to $11.8 billion this year, that still only accounts for about one per cent of the $1 trillion of Shari'ah-complaint financial assets worldwide
HSBC Amanah predicts that Sukuk issuance in the Middle East could reach over $14 billion this year, as investor demand and the relatively low volatility of the asset class drive sales. The bank forecast globalSukukvolumesof$44billionin 2012, of which the Middle East region could comprise just over 30 per cent.
MALAYSIA STILL LEADS
Remarkable as this is, Gulf countries are still nowhere near the dizzy heights of Malaysia's long-established Sukuk market. "As much GCC Sukuk issuance has rebounded impressively in recent months, Malaysia remains the undisputed leader in the sector, typically accounting for more than 70 per cent of the global total," a report from National Commercial Bank (NCB) noted.
Turkey's Deputy Prime Minister, Ali Babacan, said that the Government will finally join the Sukuk market at some point
"This state of affairs has persisted in spite of the fact that, more generally, the GCC countries have generally established themselves as the second major global hub for Shari'ah- compliant financial solutions. Moreover, in purely GDP terms, Malaysia lags far behind the Gulf: just under $200 million as opposed to some $1 trillion for the Gulf countries taken together," said the report.
According to HSBC Amanah, Malaysia will continue to dominate Sukuk issuance in 2012, with about 60 per cent of total volumes forecast globally. "One of the key drivers of this will be the continued level of liquidity within the overall Islamic investor base, whether in Middle East or Asia, the market is still very much characterised by a high degree of liquidity and relatively limited levels of supply," said Mohammed Dawood, Managing Director of Islamic global markets for EMEA. "From a volume, country, and issuer perspective, 2012 is going to be a year when this market will continue to make its mark."
"Infrastructure projects in Asia and the Middle East are likely to be the other driver of Sukuk issuances in 2012. Malaysia's biggest toll expressway company has already announced a $10 billion Sukuk. Sukuk is a viable tool but we need longer tenor ones that extend to 10 years and beyond for these long-term projects," added Rafe Haneef, Managing Director of Islamic global markets, Asia, HSBC Amanah.
INDONESIA CATCHES UP
Malaysia, of course, took the top spot with issuances totalling $31 billion; Indonesia came in fourth, with $3.4 billion worth of issuances. Indonesia, however, is gaining more corporate clout in the Sukuk space. Listed food- producer PT Mayora Indah and Bank Muamalat Indonesia both plan to issue Sukuk this year in a bid to raise IDR 250 billion and IDR 800 billion respectively, according to the National Sharia Council.
According to the council, which approves or endorses company Sukuk prospectuses, 28 Indonesian companies have raised money this way since that first offering by PT Indosat back in 2002. For Mayora, this will be its second foray into the Islamic debt market.
Bank Muamalat is planning to issue IDR 1.5 trillion of corporate Sukuk to expand business and credit financing, according to the bank's director Adrian Gunadi. Gunadi said that IDR 800 billion will be issued as the first tranche in mid 2012, with a 10-year tenure and buyback option on the fifth year. The second stage of the corporate Sukuk is expected to be issued in the second half of 2012 or early 2013.
Kanny Hidaya, Council Deputy Secretary, said that said the prospects for corporate Sukuk in 2012 were good, with three other companies expected to issue their own papers later this year. This is already an improvement on 2011, which saw only regional development banks Bank Pembangunan Daerah Sulawesi Selatan and Bank Nagari issue Sukuk in 2011, both IDR 100 billion.
Kanny blamed Indonesian companies' low interest in using Sukuk to a misperception that the process was complicated. "That's a shame because actually the procedures are as easy as for conventional bonds, albeit with a few more steps," he said
However, it seems more Indonesian companies are cottoning onto this. Indosat, the country's second-largest mobile phone operator, is planning to sell fixed-rate conventional bonds and Sukuk this year. "Net proceeds from the issuance of Indosat bonds will mainly be used for investment and refinancing of Indosat debt," the company said in the statement, adding that the bonds will mature in 10 years. However, it would not comment on the proportion of conventional bonds and Sukuk.
In fact, Indonesia's Sukuk market is expected to double in size this year, according to Herwin Bustaman, Head of HSBC Amanah Indonesia. The Government has already sold $1.5 billion of local Sukuk and HSBC estimates it will issue another $1 billion to $1.5 billion in the second half of the year, far surpassing its $1.9 billion total in 2011.
"Indonesia will see one or two corporates issue the country's first dollar-denominated Sukuk. Previously, it was difficult to do that because of issues such as tax and the transfer of beneficiary ownership."
As well as more established markets in the GCC and Southeast Asia, 2012 may see new contenders in the Sukuk market. While Malaysia is expected to account for 60 per cent of global issuances this year and the GCC 32 per cent, HSBC Amanah predicts that the rest of the world will account for the remaining eight per cent.
In April, it was announced that Hong Kong is considering amending the tax treatment of Islamic financial products. The Financial Services & the Treasury Bureau (FSTB) launched a consultation on 29 March 2012 on proposed amendments to the Inland Revenue Ordinance and Stamp Duty Ordinance to promote Sukuk.
Secretary for Financial Services & the Treasury Professor KC Chan said that the amendments seek to level the playing field for common types of Sukuk vis-a-vis their conventional counterparts in terms of profits tax, property tax and stamp duty liabilities.
"The legislative amendments would also help to attract Sukuk issuers using our Islamic finance platform. The structuring of Sukuk often involves transfer of underlying assets and setting up of special-purpose vehicles, which may give rise to additional tax and stamp duty implications and uncertainty under the existing laws, putting Sukuk at a disadvantage when compared with conventional counterparts. Amendments are therefore necessary.
Banque Saudi Fransi filed a base prospectus for a $2 billion Sukuk programme with the London Stock Exchange
"The consultation exercise seeks to gauge market views on the proposed legislative amendments with a view to ensuring they are practicable and able to meet the latest market development needs," he said.
The bill will be tabled in the Legislative Council in the next legislative session. The Government proposes 'to adopt a prescriptive and religion-neutral approach, in line with that adopted by other major financial markets such as the UK, as prescriptive legislative provisions without specific reference to Shari'ah principles would provide more certainty in implementation to market players in Hong Kong'.
There are also hopes that a much- anticipated issue from Thailand will materialise shortly. The state-owned Islamic Bank of Thailand said in late March that it hopes to issue Sukuk within two months. The bank is looking to sell around THB 5 billion baht ($162.6 million) of bonds with a likely maturity of five years, according to the bank's President, Dheerasak Suwannayos.
CIMB Bank will be assisting the issue, which will target domestic and institutional investors in Malaysia and Hong Kong. The long-delayed issue was first touted last year by Suwannayos, who told reporters the bank was finalising details with advisors. The proceeds of the Sukuk will be used to finance infrastructure projects, Suwannayos said.
Tax legislation necessary for developing Thailand's Sukuk market was passed in May 2011, however the country has yet to see the benefits. Thailand's Deputy Minister of Finance Viroon Tejapaibul, believes that this will change, saying that the country is committed to developing the Islamic banking system.
Meanwhile, another promising market is poised to take advantage of amended regulations. Turkey's Deputy Prime Minister, Ali Babacan, said that the Government will finally join the Sukuk market at some point in 2012.
"Market conditions will determine the amount of the issue, and the Sukuk may be lira-, dollar- or euro- denominated and will attract investors from both Turkey and abroad," he told reporters at a recent press conference. "We find developing the Sukuk market important in terms of the diversification of financial sources and investment options for both national and international investors. We have completed regulations on rent certificate issuance."
He added that developing Turkey's Sukuk market is part of the country's bid to mould Istanbul into an international financial centre. "We think it will not be only a national market, but a regional and global market. These certificates will be traded on the Istanbul Stock Exchange every day," he said.
Sukuk issuance in the Middle East could reach over $14 billion this year
The Government's support has been cheered by the so-called participation banks in Turkey, including Kuwait Finance House in Turkey (KFH-Turkey). The bank's Chairman Mohammed Al-Omar, welcomed the call made by Turkish Minister of Finance to encourage the issuance of Governmental Sukuk and reinforce Sukuk issuance in Turkey, since Sukuk has numerous benefits for the Turkish economy. "This means that Sukuk has become a main instrument in financing in the Turkish economy," he said, adding that the bank is willing to issue Sukuk in Turkish lira and US dollars.
SUPPLY VS DEMAND
Despite more markets and institutions mulling Sukuk issuances, a void remains between demand and supply. While global sales of Sukuk have more than doubled to $11.8 billion this year, that still only accounts for about one per cent of the $1 trillion of Shari'ah-complaint financial assets worldwide, according to the Islamic Financial Services Board (IFSB).
Employees Provident Fund and Kumpulan Wang Persaraan (Diperbadankan), Malaysia's two biggest pension managers, and PT Jaminan Sosial Tenaga Kerja (JAMSOS), Indonesia's largest retirement fund, have both recently said that they want more Shari'ah-compliant debt in order to diversify portfolios that must hold investment- grade securities. Kumpulan Wang, which runs Malaysia's civil service scheme, is looking offshore for Sukuk because of local scarcity.
"The pension funds are getting money faster than Sukuk sales," Badlisyah Abdul Ghani, Chief Executive Officer at CIMB Islamic Bank said. "Despite the prolific Sukuk issuance in Malaysia, it's still small compared to the invest-able funds out there."
Hopefully this will change as issuers realise the mutual benefits of Sukuk. Investors have become partial to them because they have been less volatile than conventional issuances; issuers on the other hand like Sukuk because it gives them access to an aff luent new investor base. With this in mind, it is reasonable to expect a number of sovereign and financial institutions to take advantage of the positive Sukuk issuance environment.
"We expect a significant increase in Sukuk issuance this year because it performed well against the financial crisis and liquidity crunch in 2011. The Sukuk market is already off to a strong start in 2012. This January is the busiest we've seen in this market. Demand still outstrips supply," concluded Dawood.
2012 CPI Financial. All rights reserved.
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