The sukuk market is going through a tough time at the moment, with a steady fall in both the number and value of instruments issued in recent years. With 2016 now upon us, the question for the industry is whether that trend will continue or if something will happen to turn its fortunes around.
According to a Thomson Reuters report published in early December, the number of sukuk issuances fell from 834 in 2013 to 809 in 2014. The full-year figures for 2015 are not yet available but the decline appeared to be accelerating, with only 513 issues in the first nine months of the year. The trend has been even more pronounced in terms of the amount being raised via these issuances, with the figure falling from $137 billion in 2012 to $117 billion in 2013, $102 billion in 2014 and just $49 billion in the first nine months of 2015.
“It’s a big slowdown [in 2015]. The big fall in issuance is really the story,” said Mark Smyth, chief investment officer of Luxembourg-based Tawreeq Holdings, speaking at the World Islamic Banking Conference in Bahrain in early December.
One big factor in the slowdown has been the decision earlier in 2015 by the Malaysian central bank to move away from sukuk as a liquidity management tool for the country’s Islamic banking sector. But the sector has also been affected by a variety of other factors, including the performance of the bond market more generally.
“Some issues are specific to the global Islamic finance industry, others are quite clearly tied to the general bond market,” says Smyth. “I think most bankers would agree that it’s a particularly tricky read these days–the financial markets, geopolitical tensions–all these things play into tough trading for bond markets and fixed income.”
There are a few reasons why the dynamic might change over the course of 2016, however. Among them is the fact that banks need to raise capital to comply with Basel III regulations.
In addition, a lot of oil-producing governments need to cover their ever-widening budget deficits. Both these factors mean that the sukuk market could be far healthier, although it is not clear to what extent issuers might favour conventional bonds over sukuk.
Another positive development is greater clarity on interest rates. One thing holding issuers back last year was uncertainty over what action the US Federal Reserve might take on interest rates. That has now been lifted to some extent, following the mid-December decision by the Fed to raise interest rates by 0.25 per cent, its first rise since 2006. The likes of Saudi Arabia, Bahrain and Kuwait all raised their interest rates in response, to maintain their currency pegs to the US dollar. Further rate rises may follow, but the direction of travel is at least clearer.
In the longer term, the sukuk market needs to expand into new areas if it is to thrive. Mohammad Farrukh Raza, managing director of IFAAS, an Islamic finance advisory firm, says there are several promising areas that have yet to be explored properly, but which would help to the sector to develop and mature.
“I think there are two pools that are seriously under-tapped in this market,” he says. “First of all, the corporate sector, and also retail sukuk. There is a lot of opportunity out there, but due to the lack of awareness among corporates, it’s simply not happening. The retail sukuk is another area that is almost completely ignored … The GCC markets need to investigate this more and develop structures that are geared towards the sukuk market and that will bring a lot of new liquidity into the market.”
Khalid Hamad Abdul-Rahman Hamad, executive director of banking supervision at the Central Bank of Bahrain, agrees that more needs to be done in this regard.
“We should encourage more innovation in sukuk structure and call for more issuances of sukuk by Islamic financial institutions, corporates, sovereigns and multilateral development banks,” he says.
Amid the gloom, it is worth pointing out that sukuk is still the second-largest segment of the global Islamic finance market, making up 16 percent of the industry’s total asset base in 2014, according to the Thomson Reuters report. Since 2012, the total amount of outstanding sukuk has grown by an average of 8.3 percent a year, more than twice the rate for the industry as a whole.
However, its relative strength within the industry highlights the lack of diversity in Islamic finance more than any particular strength in terms of sukuk. If the sukuk market does manage to grow this year, it could lead the way for expansion of the industry more generally.