The UAE has been a key player in the development of the international market for sukuk (Islamic bonds), with Sharjah playing an outsize role. The emirate was the first member of the federation in which a bank issued an international sukuk. Global and regional sukuk issues have slowed in recent years, following strong growth previously, and issues in the GCC were below expectations in 2016 and are expected to remain subdued in 2017. However, Sharjah-based institutions have bucked the trend, with two issues taking place in the emirate in 2016, and both the local government and the emirate’s main Islamic financial institution plan to return to the market in the years to come.
Having ramped up rapidly during the first decade of the millennium, the size of the global Islamic bond market has been shrinking for the last few years. The value of issuances grew from $1.2bn in 2001 to $53.1bn in 2010 and reached a peak of $137.6bn in 2012, according to figures from the International Islamic Financial Market.
The figure began to fall thereafter, beginning with a slight decline to $135.9bn in 2013 before picking up speed in subsequent years, with drops to $107bn in 2014 and $60.7bn in 2015. While the figure rose again in 2016 to $67.4bn, according to Standard & Poor’s (S&P) credit rating agency cited in regional media, this remains less than half of the 2012 peak value of sukuk issues. Much of the decline in global issuances was as a result of Bank Negara Malaysia, the Central Bank of Malaysia’s decision to stop issuing short-term sukuk in 2015 on policy changes.
Participating nations’ international issuances (i.e., excluding domestic sukuk) have proven more robust and continued to grow until 2014, peaking at $26.4bn. The UAE has driven much of the growth in the international market, accounting for 36.2% of all international sukuk issues that occurred worldwide between 2011 and 2015, well ahead of any other country – Malaysia came second at 20.3% – and making up more than half (55.6%) of issues throughout the GCC. Despite encouraging figures, the international issuance market also saw a decline in these instruments in 2015, to $20.9bn.
Furthermore, the total value of sukuk issued in the GCC was down 6% in 2015 according to S&P numbers announced in regional media. While some observers had anticipated a large rise in sukuk as regional government sought to borrow to finance fiscal deficits, many governments chose primarily to use conventional bonds instead – issues of which more than doubled in 2016 as compared to 2015. S&P attributed this to the continued complexity of sukuk issues, which can raise costs and lengthen the process of raising funds.
Beyond creating budgetary shortfalls, the price of oil may also have unexpectedly contributed to the issuance decline by reducing funds available for investment in the region. This gave rise to a greater reliance on international investors outside of the Middle East to purchase new issues, prompting borrowers to rely more heavily on conventional bonds to attract such international investment. Industry observers expect the international market to remain fairly tame in 2017.
Despite the broader regional and international pull-back in issuances, Sharjah, having played a key role in the development of the industry in the UAE, showed continued commitment to the Islamic debt market in 2016, with two issues taking place that year for the first time in the emirate. The sales by the government of Sharjah and Sharjah Islamic Bank (SIB) were worth a combined $1bn and brought the value of outstanding Islamic debt instruments issued by the two institutions to a $2.25bn total. The two institutions, which have both listed all their outstanding sukuk on the Nasdaq Dubai’s sukuk exchange, are expected to issue more Islamic debt in coming years, and other institutions in the emirate may follow their lead.
SIB in 2006 became not only the first Sharjah-based entity to issue sukuk on the international Islamic debt market, but also the first Emirati bank to issue an international sharia-compliant bond, worth $255m. The institution returned to the market for a second time five years later, with a $400m five-year instrument that was fully repaid in May 2016, and has continued to conduct regular issues since.
A recent issue is a $500m sukuk launched in September 2016. The bond, which paid an effective coupon of 3.084%, was 3.2 times oversubscribed. Of subscriptions, 59% originated from the Middle East, 22% from Asia and 16% from Europe. The bank currently has two other sukuk outstanding, in the form of two separate $500m issues due to mature in 2018 and 2020, dating from 2013 and 2015, respectively.
Also approved at SIB is a programme for the further issuance of $3bn worth of such debt. “The timing of our next sukuk issue will depend on factors such as market conditions, but we will definitely be back in the market within one to one and a half years,” Ahmed Saad, deputy CEO of SIB, told OBG.
The government of Sharjah followed SIB into the Islamic debt market in September 2014. A $750m ijara (sale and leaseback structure) sukuk with a 10-year maturity, the instrument has similar commercial properties to a senior unsecured conventional bond and an effective coupon rate of 3.76%. The issue was more than 10 times oversubscribed, with half of subscriptions coming from the Middle East, 20% from the UK, 14% from Asia and 11% from continental Europe.
The authorities followed this in January 2016 with a second issue, this time for five years at a profit rate of 3.84%. Regional liquidity has been tightening as a result of factors such as lower oil prices and global interest rates being pushed up by expectations of further hikes from the US Federal Reserve. Due to this, interest in the issue was lower than in 2014, and media reports at the time suggested that the government had also planned to simultaneously issue a ten-year instrument but dropped it due to investors seeking higher returns than it was willing to offer. Nevertheless, the five-year issue that went ahead was almost two times oversubscribed.
Sharjah Asset Management, the investment arm of the emirate’s government, also regularly issues sharia-compliant investment certificates, which the body says are consistently oversubscribed. The authorities have used the issues as part of efforts to reformulate and reduce the costs of the emirate’s debt, paying off previous debts with higher interest rates.
The government’s debt management programme, which is now largely complete, has brought down the cost of the emirate’s debt by about half. In part with the aim of reducing the cost of its debt, the government also sought credit ratings from international agencies in 2013, the year before its first sukuk issue, and currently holds an investment grade rating from both Moody’s and S&P. Moody’s gave the government an A3 rating on a stable outlook, while S&P gave the issuer a rating of A/A-1 on an originally stable outlook that was revised to a negative outlook in August 2016. In January 2017 S&P lowered its Sharjah rating again to BBB+/A-2, citing the emirate’s increasing debt as a percentage of GDP since 2014.
Further sovereign issues are likely to take place in the not too distant future. “We have no current plans for another sukuk but I am sure we will issue another one in coming years,” said Tom Koczwara, director of the debt management office at the emirate’s Department of Finance. He added that the government intends to continue borrowing to fund capital expenditure, which he said would help boost growth and pay for itself over the long term.
Other institutions from the emirate are likely to follow into the Islamic debt market in the future. “SIB and the government are so far the only entities currently emitting sukuk in Sharjah, but in doing so we have paved the way for others,” Ibrahim told OBG.
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