Kuwait’s Islamic financial services (IFS) sector is well established, with a long history in both Islamic banking and takaful, or Islamic insurance. The segment has expanded in recent years, building upon the country’s reputation as an emerging centre for sharia-compliant banking, insurance and investment products. The government has enacted a series of laws and regulations aimed at further developing Islamic finance, and there remains a strong demand for such products. This is reflected in the country’s increasing world share of sharia-compliant assets, with Kuwait accounting for 6.3% of such products in the second quarter of 2018, up from 6.0% during the same period of 2017, according to the “IFS Industry Stability Report 2019”, published by the Kuala Lumpur-based Islamic Financial Services Board in July 2019. The GCC as a whole was home to 44.3% of all Islamic financial assets in 2018.
Islamic finance players in Kuwait have historically been more conservative in terms of lending and asset composition than the conventional banking segment, which has proved prescient, especially in light of the 2008-09 global financial crisis and its aftermath. Islamic banks have found themselves less exposed to bad debt and, as such, have enjoyed faster profit growth. Similarly, takaful providers have been less aggressive than their conventional counterparts in pushing down prices in recent years and, as a result, are better positioned for the upcoming regulatory changes to the sector.
History
The Kuwaiti government has been a pioneer in the development of IFS in the Gulf and, as an extension, the world. The nation was a key driving force behind the organisation of a series of regional meetings focused on facilitating the introduction of early sharia-compliant products, beginning in the 1970s. These summits brought together financial regulators, sharia scholars and various commercial interests to agree on details and regulatory frameworks around key issues related to Islamic banking, sukuk (Islamic bonds) and takaful products. This planning and implementation work was organised in large part under the aegis of the Organisation of Islamic Cooperation, of which Kuwait was a founding member. Indeed, Kuwait hosted a number of key early meetings around the development of IFS products and services.
In 1977 the government launched Kuwait Finance House (KFH), which was the country’s first sharia-compliant financial institution and remains a leader across a range of segments. Until the early 2000s KFH was the sole Islamic financial entity allowed to operate in Kuwait. Others were banned under the 1968 banking law, which prohibited the establishment and operation of privately held sharia-compliant banks and other financial institutions. As such, through the 1980s and 1990s, KFH effectively had a monopoly on the local market, as well as privileged access to public projects and financing as a state-owned institution.
Enter Players
This situation changed in the early 2000s, when Kuwait relaxed its regulations regarding the establishment of new financial entities. This shift, which was in line with newly liberalised business and regulatory frameworks across the Gulf, heralded a major shift in Kuwait’s financial services industry. In 2003 the government passed Law No. 33, which allowed for the creation of new Islamic banks and non-lending financial institutions.
The following year, the privately operated Boubyan Bank was established, becoming KFH’s first sharia-compliant competitor. Boubyan was followed by a handful of other new entrants and older conventional operators that entered the sharia-compliant arena. In 2007 Kuwait International Bank (KIB), which had been operating as a conventional lender as Kuwait Real Estate Bank since the early 1970s, converted all its operations to meet Islamic requirements. In April 2010 Bahrain’s Ahli United Bank (AUB), which has a presence in Kuwait, also moved from conventional to Islamic status. That same year Warba Bank, a newly established lender, obtained an operating licence and became the fifth Islamic bank in the local market, with 11 branches.
Opening up the segment resulted in sharia-compliant offerings steadily gaining a larger share of total banking assets in the country. Indeed, the proportion of assets held by conventional banks fell from over 70% in 2008 to 62% in 2010. However, in the years since, the growth of the Islamic segment and the conventional banking segment have been broadly aligned, and the regulator has sought to ensure that both are treated equally, with similar rates of growth and profits.
In July 2018 KFH announced plans to restart merger t a l k s w ith AUB, renewing discussions between the two entities that came to an end in 2017 due to a disagreement about the price of AUB’s shares. The purchase of AUB by KFH for an estimated $7bn would result in the establishment of a new sharia-compliant lender with assets valued at around $92bn and equities worth $10bn, which would make it the largest Islamic bank in the world. The acquisition is also expected to increase the reach of the Kuwaiti lender, giving it an advantageous position in markets such as Egypt and the UK, where AUB already has an established profile. KFH said in a statement in January 2019 that the bank expects the merger to have a significant and immediate impact on earnings, and projects a 90% increase in consolidated profits compared to those of 2018. If completed, the merger would be the first major bank merger in the GCC in recent years. A preliminary deal was reached in January 2019 and due diligence was under way as of August of that year.
The potential merger of KFH and AUB is not the only change in process in the segment. In May 2019 the National Bank of Kuwait (NBK), a conventional lender and the country’s largest bank, announced it acquired additional shares in Boubyan Bank, increasing its holding from 59.15% to 59.9%. NBK therefore owns the controlling stake in Boubyan Bank, whose capital stood at KD288.4m ($949.9m) in May 2019.
Oversight
The Islamic banking segment, like conventional banking, is under the supervision of the Central Bank of Kuwait (CBK), which works to maintain equity between the two segments. “We try to ensure a level playing field for Islamic banks and conventional banks,” Waleed Al Awadhi, executive director of supervision at the CBK, told OBG. Even so, the CBK has taken a number of steps to develop the oversight of sharia-compliant products.
The CBK is working to keep up to date with regulatory needs and revises its supervisory framework accordingly, states an April 2019 staff report from the IMF. The organisation noted that the authorities proposed draft amendments to legislation establishing a dedicated sharia board in the central bank. “We are building capacity in the Islamic banking sector and creating a proper control function,” Al Awadhi told OBG. “Further, we are implementing these changes smoothly through dialogue with sharia oversight boards.”
Structure
Banks account for the bulk of Islamic assets in Kuwait, at around 80%. All Islamic banking assets were valued at KD30bn ($98.8bn) in 2018, accounting for 38% of the total assets in the banking sector, a share that has remained relatively unchanged in recent years. KFH is by far the largest of the Islamic banks, accounting for 58.5% of total Islamic assets at the end of 2018, with KD17.77bn ($58.3bn). Boubyan Bank was second, with 14.3% of Islamic assets, equal to KD4.35bn ($14.2bn); followed by AUB, with 12.9% of assets at KD3.91bn ($12.9bn); Warba Bank, with market share of 7.2%, or KD2.19bn ($7.2bn); and KIB, also holding 7.2% of total assets.
The largest takaful companies in Kuwait are part of leading banks: Boubyan Takaful and KFH Takaful. The financial backing this affords has allowed the banks to overtake older takaful companies, such as First Takaful, which was established in 2000.
Performance
Islamic banks in Kuwait have followed a largely similar pattern of growth as conventional banks. Between 2014 and 2018 the total assets of Islamic lenders grew at an average of 6% per year, the same rate as conventional banks. However, in terms of profits, Islamic banks have outperformed their conventional counterparts, with an average growth rate of 12% over the same period, compared to 6% for conventional banks. Much of this profit growth is due to the fact that Islamic banks were less exposed to the investment companies that caused the debt-related issues in the aftermath of the global financial crisis.
Islamic banks have continued to outperform conventional entities, reaching profit growth of 22% in 2018, compared to 17% for the latter. Conventional banks, however, dominate in terms of absolute value, taking in total profits of KD616m ($2bn) in 2018, versus KD268bn ($882.7m) for Islamic banks.
Sukuk
Kuwait’s relatively recent formalisation of regulations governing the issuance of sukuk suggests further scope for growth. In late 2015 the government introduced a new regulatory framework for sharia-compliant debt instruments. The framework, which was developed and implemented in part to encourage new sukuk listings, established rules for dealing with all aspects of the Islamic debt market, including those related to governance, special purpose vehicles and sharia compliance.
All sukuk issues in Kuwait are required to receive approval from both the CBK and the Capital Markets Authority (CMA) – the latter of which regulates the stock exchange and other domestic trading activities – and must receive a credit rating for public issuance. The new regulatory framework, paired with the government’s rising financing needs due to slowing oil revenues, resulted in an influx of new sukuk and conventional bond issuance in Kuwait between 2016 and 2017. In the year following the implementation of the new regulations, for instance, the CMA reported that it approved around $700m in sukuk and $4bn in conventional bond issuances.
As of February 2019 Kuwait was the only GCC sovereign to not issue a sukuk, despite announcing plans in 2016 to do so. There is a strong appetite for such instruments, and a sovereign sukuk issuance would further the development of the local Islamic financial market. It is notable that in the absence of sovereign issuances, several banks have released sukuk. In May 2018 KFH announced a $3bn sukuk. More recently, KIB issued its first sukuk for $300m in May 2019 to bolster its Tier 1 capital, and the offering was 15 times oversubscribed. “This sukuk transaction is clear evidence that Kuwait possesses the components required to attract international investors to the local market,” Raed Jawad Bukhamseen, vice chairman and CEO of KIB, said at the time in a statement. The sukuk was subsequently listed for trading on a secondary market through Euronext Dublin. Other banks are following suit. In July 2019 Warba Bank announced a $500m sukuk, which would be part of an overall $2bn offering.
Regional Issuance
There is a long-standing gap between bond and sukuk issuance not only in Kuwait, but across the GCC. In 2018 conventional sovereign and corporate issuances in the GCC totalled $68.1bn, according to data compiled by the Kuwait Financial Centre (Markaz), compared to $23.8bn in sukuk issuance. This latter figure is equal to 26% of the total, while conventional debt instruments accounted for the majority 74%.
Notably, however, sukuk issuance has been growing faster than conventional bond debuts, with total sukuk issued in the region rising by 4% in 2018, compared to a decline of 12% for conventional bonds. The increase for sukuk was even larger than that seen in the previous year, with the total primary issuance of sukuk almost doubling since 2016, when it was $13bn, according to Markaz. Regional data indicates that sovereign issues contributed half of the total in 2018, versus 63% in 2017. A recovery in oil prices and lower budget deficits in the region eased the pressure on sovereigns to issue debt.
Takaful
Islamic insurance is a relatively new product in Kuwait, with the establishment of First Takaful in 2000 marking the country’s first step into a burgeoning global market for such services. Interest in supplying takaful surged in the latter half of that decade as the market developed, and there are now 17 fully fledged takaful companies operating in Kuwait, including one foreign company. The largest players in the market are all backed by banks. Boubyan, KFH and KIB have their own dedicated takaful operations and are the largest operators. Like the conventional insurance market, motor insurance is the most popular product, particularly compulsory cover, and price competition in this segment is fierce. By 2018 total premium income for pure takaful companies reached KD92m ($303m), or 20% of the total insurance market.
In mid-2019 a long-awaited insurance law was passed by Parliament with updates to a previous law that had been in place since 1961. The most significant change was that takaful units will no longer be permitted, thus conventional companies will be required to separate their takaful business into independent companies with their own capital. The new legislation is expected to open the segment to more rapid growth in the medium to long term. The immediate impact, however, is likely to be minimal. The amount of premiums written by takaful units are relatively small, at KD4m ($13.2m) in 2018, a fraction of the total premiums of KD449m ($1.5bn). The new insurance law will also rewrite the rule book for takaful companies and will likely compel takaful providers to increase reserves, hire more experienced personnel and tighten their risk functions, all of which are likely to negatively impact firms’ bottom lines (see Insurance chapter).
Takaful c o m p a n ies are expected to be less impacted by the new regulations than conventional insurance providers, as the former have been more conservative in the past and their reserve levels are higher than their conventional counterparts; the race to cut premiums has been more prevalent in the conventional segment. Takaful companies should therefore benefit because the extent to which they are undercut on pricing is likely to be less severe in the future, encouraging more people to switch over to takaful.
Cultural barriers continue to inhibit the development of the insurance market, however, according to Mohammad Al Beeshi, vice-president of technical services at Gulf Takaful. “Awareness is the main issue facing the insurance and takaful market today,” he told OBG. “The market is also grappling with capacity within some insurance companies, and liquidity.” Nonetheless, many market participants are optimistic, particularly in certain segments of the market. “Medical coverage is booming as more and more people are switching to private insurance,” Al Beeshi told OBG. “The oil sector is also an important segment for takaful insurers, with large premiums written to cover their operations.”
Outlook
Kuwait’s Islamic financial services market is well positioned to benefit from increasing demand for sharia-compliant products. As the market expands and Islamic providers develop their product offerings and bring themselves in line with conventional services, the outlook for Islamic offerings looks positive. Islamic banks’ strong growth in profits and the shift from takaful units to fully fledged takaful companies underscores the opportunities in the segment. Key to further development will be an issuance of a sovereign sukuk, which would provide an attractive security for investors and act as a benchmark for corporate sukuk issuances.
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