Market In Focus: Islamic BONDS: Delivering sukuks

Bahrain's Liquidity Management Centre (LMC) is working with Reuters to establish an online market for sukuks. The move is part of an effort to develop a secondary market in Islamic bonds.

There are 39 listed sukuks in the region, with 13 listed on the Bahrain Stock Exchange. The Dubai International Financial Exchange is the largest market in terms of value, with $8,830 million worth of Islamic bonds listed. However, the secondary market for sukuks is illiquid. Investors prefer to buy and hold their sukuks, unlike conventional bonds that are typically traded through a primary dealer.

'Tradability is key,' says Khalid Bucheeri, LMC's chief operating officer. 'The underlying asset determines what [kind of sukuk] can be traded. Sukuks can be traded like shares.'

Agnostic investors are interested in the yield of a sukuk, while religious investors are concerned about the sharia-compliant nature of its structure. For a sukuk to be tradable, one-third of its value has to be asset-backed. This is problematic in the case of some sukuks, which are used as advanced funding for a project that has yet to be developed.

Trading in debt is not considered sharia-compliant in the Gulf, compared with the situation in Malaysia, where the interpretation of sharia-compliance is broader and the government has been encouraging sukuk issuance.

'What passes muster in Malaysia [with sharia scholars] does not pass muster in the Gulf,' says Paul Coughlin, executive managing director for corporate and government ratings services at Standard & Poor's (S&P).

National Central Cooling Company (Tabreed) has issued two sukuks that are listed on the Luxembourg and London bourses, and raised a total of $300 million.

'We do not see a lot of secondary trading in either of our sukuks,' says Karl Marietta, Tabreed's chief financial officer.

'Whether a sukuk is tradable is important to some issuers, like Tabreed,' says Omar Daouk, Shuaa Asset Management assistant vice-president for debt and structured products.

The volume of sukuks is growing. In 2006, the value of sukuks issued in the GCC accounted for 40 per cent of the global total, compared with 21 per cent in 2005.

The next wave of regional sukuk issuance is expected to come from companies rather than governments. Abu Dhabi National Energy Company (Taqa) and Saudi Arabia's Saad Trading, Contracting & Financial Services Company are among those expected to issue Islamic debt.

'Sukuks will be issued from the corporate sector,' says Samba Financial Group chief economist Brad Bourland. 'Government debt issues will be for policy reasons to stimulate the sukuk market. Bahrain does not want to lose out to Malaysia or London.'

Apart from Manama, few

governments in the region are expected to issue Islamic bonds. Further afield, Japan Bank for International Co-operation, Jakarta, London, Berlin and Islamabad have all expressed an interest.

Applying a credit rating to all sukuks is a further difficulty. S&P is embarking on a consultation process on rating mudharaba/ musharaka hybrid sukuks that are equivalent to profit-sharing investment accounts. Rating an Islamic bond benefits the issuer, who can seek cheaper pricing as a result. It also provides comfort to investors.

'Profit-sharing accounts are the most problematic. It is difficult to use conventional methodology,' says Coughlin.