The rise of sukuks (Islamic bonds) as an alternative to conventional bonds has been an interesting trend in the Islamic financial services (IFS) sector. Starting from its initial flourishing in Malaysia and the GCC, the sharia-compliant instrument is gaining popularity in its traditional markets, and is being viewed with increased interest in countries such as Morocco, Tunisia, Nigeria and South Africa.
In 2014 Thompson Reuters estimated the global sukuk market to be worth around $237bn, and in 2014 a new milestone was reached when the UK became the first Western government to issue a sukuk. The $3.9bn, five-year offering was 11 times oversubscribed, and gives a 2.036% yield, comparable to what the UK pays for conventional government bonds.
The adoption of sukuks by traditional financial centres such as the UK has given their development as a financial instrument fresh impetus. Indeed, the sukuk market saw over $5bn issued throughout 2014, predominantly from local and international sovereigns, according to Abu Dhabi Islamic Bank (ADIB). This performance has been aided by a favourable interest rate environment and ample liquidity in the regional banking system, while future issuances to fund regional infrastructure spending and refinancing requirements should see local sukuks soak up some of the demand currently being met by recent international issues.
A Driver Of Development
According to Thompson Reuters, between January 1996 and September 2013 the UAE was the source of some 73 sukuk issuances for a total value of $47.9bn – placing it second only to Malaysia in terms of global sukuk activity. An early adopter of the instrument, the UAE continues to drive sukuk growth within the GCC; in 2013, around $3.35bn worth of corporate issuances emerged from Abu Dhabi and Dubai, a total only exceeded by neighbouring Saudi Arabia. Abu Dhabi’s financial institutions are emerging as a strong source of sukuk development. In 2010 the $750m offering from ADIB proved to be the largest corporate issuance from the emirate during the year and helped spark a recovery in issuance after the global economic crisis. In 2012 ADIB made an even more significant contribution to the global development of sukuks. Its issuance of a perpetual sukuk based on the mudaraba (trust financing contract) model was a landmark event in that it was the first sharia-compliant tier-one issue executed in international markets since the Bahrain-based Accounting and Auditing Organisation for Islamic Financial Institutions issued stringent guidelines on this form of sukuk in 2008.
The transaction, designed to comply with Basel III guidelines, was enthusiastically received by regional and international investors, and resulted in an order book in excess of $15bn (representing a 15 times oversubscription, the largest of any sukuk offering in the world to date). A hybrid security that mixes debt and equity, the perpetual sukuk could revolutionise the sukuk market. These innovative structures provide access to equity solutions in the debt capital market space. The market’s development will be driven by regulatory, capital and business growth requirements, and going forward, ongoing activity is expected.
A Popular Model
2014 has seen Abu Dhabi’s other sharia-compliant bank turn to the perpetual sukuk model in order to raise funds. In July Al Hilal Bank issued $500m worth of tier-one sukuk certificates. Attracting $4.5bn from more than 200 investors, the offering was priced at par with a coupon rate of 5.5% – the lowest achieved by any bank for a dollar-denominated tier-one issuance outside the US since 2008. Interest for the offer was remarkably evenly spread between the MENA region (40%), Asia (31%) and Europe (29%), and distributed across the usual array of bond purchasers – funds, banks and insurance institutions. The success with which Abu Dhabi’s two Islamic banks have raised capital through perpetual sukuks is thus important both with regards to their individual growth strategies and for the growth of the global Islamic finance sector more generally.
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