Islamic issuance spreads
The global race to capture shares of the US$1trn Islamic market has intensified, with Paris, Singapore and Seoul now catching up with London and Kuala Lumpur. Bakyt Azimkanov continues.
However, other major financial centres are not far behind, with a few preparing necessary legislation amendments to allow Sharia-compliant financing in their respective jurisdictions. The Islamic finance industry is already active in more than 50 countries worldwide and is expanding further. The annual growth of the sector is estimated at 15% with the majority of sukuk supply often sold to non-Muslim investors in the West.
The French parliament passed legislation on September 17 this year to make issuance of Sharia-compliant bonds by French firms easier, despite opposition from the country's Socialist Party. The new law amends the legislative structure known as fiducie, the equivalent of trust in the UK, but it does not stipulate how fiducie will be used in practice. Many countries are going through a similar process, looking at the barriers within their legal systems that impede sukuk issuance.
So far, London is ahead of other European financial centres, with five Islamic banks in the UK, although there has been no sukuk issuance in the country since the first Sharia-compliant deal was put together in the City in 1985. Islamic banks are also due to open soon in Italy, Switzerland and Russia.
The French legislation is likely to facilitate the development of a domestic French market. There is a big Muslim base in the country and this could be a preparatory step towards the establishment of Islamic banks wishing to fund themselves in a Sharia-compliant way.
"As the UK government says, it is about creating a level playing field. There should not be something in the legal system that discriminates against people being able to finance in one way or another," said Roger Wedderburn-Day, a partner specialising in Islamic finance at law firm Allen & Overy.
Wedderburn-Day added that if it was possible to issue conventional bonds with a certain tax structure, then it should also be possible to issue Islamic bonds with the same tax structure. "Everyone who wants to attract this market is making the same analysis and doing the same things," he said.
One French Islamic bank that was considering issuing €1bn in Sharia-compliant bonds this summer is thought to be delaying the deal due to "technical challenges". The sukuk offering, which was first mooted publicly in April, is likely to be launched later this year or early in 2010. As and when the deal materialises, it will be the first Continental European private sector sukuk issue.
A few European and UK corporates are also expected to bring sukuk offerings once legal hurdles are removed. The regional state of Saxony-Anhalt issued Germany's first sukuk deal five years ago and the country is hoping to lure more Islamic investors. Turkey issued a sukuk offering in 2007, though its strong secular policies make building an Islamic banking sector challenging. Even Russia is hoping to get into the game, with VTB Capital aiming to become the first institution in the country to offer fully Sharia-compliant financing services.
In the CIS, only Kazakhstan and Kyrgyzstan allow Islamic financing. The Kyrgyz Republic in February passed legal amendments allowing all banks to carry out Sharia-compliant services and establishing Sharia councils. Azerbaijan is yet to make the essential changes but the state is keen on developing the sector.
The Monetary Authority of Singapore on May 7 2009 released guidelines that it hopes will boost its standing as an Islamic financing hub. The guidelines build on previous moves to facilitate the sector, and the key regulation is the equal tax, regulatory and liquidity treatment of Singapore dollar-denominated sukuk with government securities. The guidelines, which take effect immediately, will make sukuk issuance in Singapore more cost-effective.
The MAS said banks carrying out Islamic banking activities would be treated the same as conventional banks under a single regulatory framework. In addition, it introduced two regulations that will allow Singapore-based banks to enter into what are known as diminishing musharaka deals and spot murabaha transactions. The move clarifies MAS's policy on Islamic banking and its treatment of Islamic structures.
The talk is that South Korea is poised to sell a sovereign benchmark Islamic issue, possibly in US dollars, a move that will help it beat perennial rival Japan – which has talked about cracking the sukuk market for years – to the Islamic starting line. The speed with which the country's mandarins have acted to create a sukuk-ready issuance environment is laudable, especially when compared with other Asian countries such as Hong Kong and Thailand, which have struggled to establish their own Islamic programmes.
Seoul is keen to launch its sukuk regime and will introduce the plan to investors through a series of non-deal roadshows to be held in Malaysia and the United Arab Emirates.
A number of local bankers are convinced that a sukuk offering is imminent. With a tax exemption on Sharia-compliant bonds close at hand, the South Korean government is believed to be keen to set a benchmark yield curve for other South Korean borrowers. A number of corporates eager to tap the Islamic base are holding off until the sovereign piece is done and the tax waiver issue is addressed. Initial chatter had it that the debut issue would come through state-owned banks, but it is now apparent that the sovereign wants to go first.
The opening of the Islamic market would be particularly beneficial to South Korea's energy firms, such as GS Caltex, with Islamic funds naturally comfortable with the sector. These borrowers had checked out the Islamic markets in Malaysia and the Gulf region earlier this year but, without the tax exemption, investors were not keen. Approval from the Assembly is expected to go through without a hitch, as politicians are thought to be throwing their weight behind a move to diversify the country's external funding sources.
Elsewhere, Tokyo is also keen to become a sukuk centre but so far Japan has not passed any legislation. Borrowers from Thailand, Hong Kong and China are all candidates to issue Islamic debt.
Australia is unlikely to amend its securities rules to make them more sukuk-friendly but its banks and corporates have been eyeing the Islamic investor base and could head to the Gulf to raise money, with Macquarie thought to be working on a Sharia-compliant deal.
Bear Mountain, which operates a golf resort and related properties, is expected to bring the first Canadian dollar-denominated public Sharia-compliant bond. It will also be the first public sukuk deal from Canada itself. Located on Victoria Island in British Columbia, Bear Mountain is preparing a C$425m five-year sukuk issue in mudaraba format, according to the lead manager. Saudi Arabia's Siraj Capital is underwriting the deal for the company, which is expected to be rated by Moody's.
The announcement comes at a time when investors are showing signs of a revived appetite for sukuk offerings, with more new issuers expected to explore the possibilities of Sharia-compliant financing. "If the credit and the deal is good, it would definitely attract interest among the dedicated Islamic investor space, given that it will be the first from Canada," said the head of capital markets at a major investment institution in Dubai.
New York is yet to surpass London in the sukuk race but given the relative flexibility of US laws, analysts are not ruling out completely the possibility of a US Islamic financing hub in a few years time. A modest US$166m of Sharia-compliant bonds were reportedly sold in the US three years ago. The Islamic mortgage market is posting steady growth while US investment banks are actively engaged in the sector outside home.
Latin America is yet to acquaint itself with Islamic finance, except for a few Brazilian corporates that have visited the sukuk market in the past. When Brazil's equity markets were effectively closed following the Lehman Brothers collapse, a few companies managed private equity placements with Islamic investors. However, it is too soon to expect São Paulo to emerge as South America's Islamic finance hub.
First Community Bank, one of two Islamic financial institutions in Kenya, is hoping to expand abroad as demand for Sharia-compliant services at home surpasses all expectations. FCB is in talks with regulators in Uganda and Tanzania to get banking licences while it plans to open more branches due to growing demand from the East African country's Muslims, which represent around 25% of the total population.
"These are all demand-driven branches . . . It is the people in major towns telling us . . . we need the bank," said Nathif Adam, the bank's chief. Meanwhile, other Kenyan banks have opened Islamic windows to cater for the growing demand for Sharia-compliant services.
While other African countries are not competing to become Islamic finance centres, the sector in the continent has seen a significant growth, with borrowers there eyeing the sukuk market. Algeria, Egypt, Gambia, Libya, Morocco, Tunisia, South Africa and Sudan are keen to tap and develop the sector, or even "reverse engineer" conventional deals to widen the investor base.
The sector is also seen as an ethical investment destination similar to "green" finance, with more financial centres announcing plans to establish themselves as an Islamic capital markets hub.
It is certain that not-so-nascent-anymore Islamic financing will grow further with more entities joining the race. With investors feeling more and more comfortable with the sector, Sharia-compliant debt security issuance is expected to pick up. However, varying Sharia interpretations and differing legislative frameworks firmly remain on the agenda as more credits worldwide gear up to issue sukuk.