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After Western sukuk debuts, Islamic finance looks to emerging sovereigns

LONDON: This year’s rush by top-rated non-Muslim countries to tap the burgeoning Islamic finance market may not be repeated next year but a new crop of sovereign entrants, mostly from emerging markets, is waiting around the corner.

The United Kingdom, Hong Kong and Luxembourg – all ranked at least AA by rating agencies – issued sharia-compliant financial instruments, or sukuk, for the first time in 2014. They gave a huge boost to a market which was once just seen as a funding tool for borrowers from the Gulf and Muslim countries in southeast Asia.

Senegal and South Africa also debuted on sukuk markets, lifting the total number of sovereign issuers to 19 so far, compared to 16 in 2013, according to Thomson Reuters data.

“By all accounts, 2014 was an exceptional and unique year in terms of the quality and the number of sovereigns coming to access the market,” said Mohammed Dawood, HSBC’s Head of Sukuk Financing.

Sukuk – Islamic bonds based on religious guidelines such as bans on interest and monetary speculation – have gone mainstream over the years, as borrowers around the world, including global banks Goldman Sachs (GS.N), HSBC (HSBA.L) and Mitsubishi-UFG (8306.T) have sought to tap the Middle East’s huge cash pool.

The first three quarters of 2014 saw $99.3 billion worth of sukuk issuance, a quarter higher than last year’s levels, data compiled by Thomson Reuters (TR) shows. Sovereigns and government-related entities accounted for $76.7 billion, compared to $84.7 billion for the whole of 2013, according to TR.

This was before deals from Turkey, Pakistan, Bahraini sovereign fund Mumtalakat, and World Bank-linked International Finance Facility for Immunisation (IFFIm).

The sukuk record was in 2012 when $137.1 billion was raised, while issuance dropped to $116.9 billion in 2013 as the prospect of a U.S. monetary policy shift sent shudders through debt markets.

The market boomed through the easy-money years of record high energy prices, but oil’s drop to $70 a barrel from $110 in early 2014 could also prompt a leg-up if it induces governments and state-run firms to return to markets to cover funding needs.

“Lower oil prices may mean that some sovereigns in the Gulf … could look at re-entering the market in 2015 or 2016,” Dawood of HSBC said.

EMERGING SOVEREIGNS

Demand for sukuk is expected to stay solid because Islamic banks, unlike conventional peers, are barred from interest-bearing securities, and higher regulatory capital requirements have put them on the look-out for high-grade shariah-compliant assets.

That was reflected in huge demand for recent deals, with $1 billion sukuk issues from Hong Kong and Turkey subscribed four and 3.5 times respectively. Even junk-rated Pakistan saw order books more than double the planned issuance amount.

But top-notch entities such as Luxembourg and Britain are unlikely to be sukuk regulars. Both launched small sukuk – 200 million euros and 200 million pounds sterling respectively – to signal their aspirations to become Islamic finance hubs, and to set a benchmark for companies.

Hong Kong’s $1 billion sukuk reflected growing trade links between the Middle East and Asia, according to bankers.

Momentum next year could come from emerging economies, bankers reckon, noting that governments are keen to broaden the investor base and funding sources for themselves and their companies. Borrowing terms are also usually favourable because of the strength of demand from cash-rich Islamic banks.

Many countries also see sukuk as a means to develop trade and investment links with Middle Eastern markets.

Turkey has made annual sukuk forays since its 2012 debut and last month it extended its sukuk curve to 10 years, following Indonesia which raised 10-year sukuk finance in September.

Debut issuer South Africa raised $500 million in September. Oman, Kazakhstan, Tunisia, Bangladesh, Jordan, the Philippines and Kenya are also mulling sukuk.

“They are finding significant appetite for their issuance in the Islamic finance centres,” said Massoud Janekeh, Director of Islamic Capital Markets at Bank of London and The Middle East. “Turkey’s success has encouraged these other emerging economies.” -Reuters

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