2016 London Sukuk Summit Rationale

[su_heading style=”flat-green” color=”#fff” style_color=”#e65600″ align=”left”]Rationale[/su_heading]

Economic Drivers

Low oil and commodity prices are turning out to be a blessing in several disguises. The signs are that a low oil price environment is having a potentially positive effect on the bond and Sukuk market as governments hitherto comfortable with a cushion of healthy foreign reserves and holdings and surplus budgets are suddenly resorting to raising ‘cheaper’ funding through bond and Sukuk issuance than continuing to raid their US dollar reserves to mitigate budget deficits. The GCC states are a point in question.
Oman is a new entrant in the sovereign Sukuk market, with Kuwait, Saudi Arabia, Cote d’Ivoire and Jordan amongst others poised to enter the market in early 2016.
The huge infrastructure ask in all countries has opened the possibility of the suitability of Sukuk as an infrastructure financing tool. The IMF and the G20 at its Antalya Summit in November 2015 endorsed this possibility. Recognising the large untapped potential associated with Islamic Finance, explained Prime Minister Ahmet Davutoglu, the Turkish Presidency of the G20 also tried to increase the awareness among G20 members on this issue and encourage them to increase the role of non-traditional lending models. The final communiqué called on G20 ministers “to support the development of alternative capital market instruments and asset-based financing models (such as Sukuk), and encourage Multilateral Development Banks (MDBs) to mobilise their resources, optimise their balance sheets, and catalyse private sector funding.”
Repeat sovereign and corporate issuers from the GCC, Turkey, Malaysia and even Europe (Luxembourg).
The continuing demand for issuing Sukuk to meet Basel III Tier I and II Capital requirements by financial institutions. Even conventional banks are preferring to raise this capital through Sukuk issuances as opposed to conventional bonds or through a mix of the two.
The increasing incidence of local currency Sukuk by sovereigns to facilitate liquidity management needs of local Islamic banks and by corporates to finance balance sheet activities especially financing local SMEs.

Public Policy Drivers

Christine Lagarde, Managing Director of the IMF, speaking at a conference on Islamic Finance in Kuwait City in November 2015, similarly is particularly buoyed by the growth potential of Sukuk. Over the past decade, total outstanding Sukuk assets have seen a ten-fold increase to about US$300 billion. The challenge for policymakers, she advised, is to help this market reach its full potential. “For example, more regular sovereign issuance is needed at different maturities to help establish benchmarks and develop secondary markets. Sovereign Sukuk plans need to be embedded in governments’ debt management strategies; The market needs to be supported by strong legal and regulatory frameworks. The latter would help address persistent uncertainty over investors’ rights. Many countries also need to develop money and interbank markets for Shari’ah-compliant instruments to help Islamic banks manage liquidity needs more effectively.”
Several countries have recently adopted the enabling legal frameworks to facilitate the issuance of Sukuk. These include Kuwait, Uganda, Tunisia and Morocco. This will inevitably pave the way for benchmark sovereign issuances initially followed by corporate offerings. South Africa has also widened its legislation to allow publicly and privately listed entities also to issue international Sukuk.
The emergence of SRI and Social Impact Sukuk (by Khazanah Nasional Berhad for instance) is set to increase given the ethical connectivity between faith-based finance and social and financial inclusion.

The Need for Innovation

The debate on tangible and intangible asset pools is becoming passé. Clearly there are tangibility tests to make Sukuk more marketable in certain markets. “We have moved on from asset-backed Sukuk,” explains one prominent Malaysian Islamic banker. “We don’t have to do an Ijara-based Sukuk anymore. We don’t even have to do an asset based Sukuk on physical buildings.”
The Government of Indonesia sovereign Sukuk was based on a quasi-project finance Sukuk.
The Malaysia sovereign Sukuk in 2015 was based on the rights to transportation services (vehicle licensing fees) and rights to services on a bundle of hospital buildings.
The UK Export Finance-backed Emirates Sukuk incorporated the use of a forward purchase agreement for rights to travel on Emirates aircraft in the form of “Available Tonne Kilometres” (ATKMs) over an agreed period.
Axiata Group Berhad’s latest $500 million Sukuk Wakalah issued in November is based on airtime vouchers, representing entitlement to a specified number of airtime minutes on the mobile telecommunications network of subsidiaries of Axiata for on-net calls.