Higher global oil prices and anticipated higher global interest rates are weighing on the sukuk market (Shutterstock).

Islamic Finance

Outlook 2022: Global sukuk issuance may soften but ESG provides bright spot

Global sukuk issuance is expected to range between $145-$150 billion in 2022 compared to $147.4 billion in 2021 and $148.4 billion in 2020.


London: Global sukuk issuance is forecast to be slightly lower in 2022 compared to the previous year, mainly as a result of higher global oil prices and anticipated higher global interest rates. These concerns, coupled with the ongoing spread of the Omicron variant of COVID-19, current negative investment sentiment and the complexity of issuing and investing in sukuk may negatively impact the market. However, the increase in Environmental, Social, and Corporate Governance (ESG) linked sukuk issuances and the emergence of new issuers will provide a bright spot for the global sukuk universe.

Softer sukuk market in 2022

S&P Global Ratings forecasts that global sukuk issuance will range between $145 billion to $150 billion in 2022. It says global issuance amounted to $147.4 billion in 2021 and $148.4 billion in 2020.

S&P believes that sukuk volumes will be flat at best in 2022, and points to three main reasons: lower and more expensive global and regional liquidity, increased complexity of issuing sukuk and reduced financing needs in core Islamic finance markets, such as those within the Gulf Cooperation Council (GCC).

“The financing needs of Gulf states are likely to be lower this year because of higher oil prices and production and tighter control on spending,” said Mohamed Damak, Global Head of Islamic Finance at S&P Global Ratings. “Nonetheless, some of the investments that are part of national transformation programmes and economic strategies could be financed through sukuk.”

One Dubai-based Islamic debt capital markets (DCM) banker believes that some issuers will need to access the market, regardless of where oil prices are: “The volume in 2022 is expected to be stronger than last year. Higher oil prices do support the GCC region, but corporates, financial institutions and government-related entities will continue to move away from relying on state support and continue to access the debt market in line with the conventional space,” he said.

Angad Rajpal, head of fixed income at Emirates NBD (ENBD) Asset Management, said that strong energy earnings and higher external balances warrant significantly lower sovereign issuances from the GCC issuers, particularly the UAE, Saudi Arabia and Qatar. 

“We would still expect sustained sovereign issuances from Bahrain and Oman on higher refinancing needs,” he added. “The latter issuers may even be well-served to front-load their issuances before higher rate hikes and potentially moderating oil prices in the second half impact the optimal funding window. In relation to quasi-sovereigns, repeat issuers, such as Saudi Electricity, could keep the opportunity set intact, but I would expect debut issuers.”

ESG linked sukuk

ESG-linked sukuk are likely to continue to see strong activity and growth. ESG sukuk are debt instruments where Sharia compliant sukuk align with ESG principles like the environment and sustainability. They are linked to an issuer’s ESG framework. 

Issuers that have sold either green or sustainable sukuk include the Islamic Development Bank, the governments of Indonesia and Malaysia, Saudi Electricity Company and the UAE’s Majid Al Futtaim. The most notable ESG-linked sukuk issuance in 2022 was Saudi National Bank’s $750 million 2.342% 2027 sustainable sukuk in January. More is likely in the coming weeks and months.

According to the HSBC Sustainable Financing and Investing Survey 2020 Middle East Survey, nearly 30% of regional investors (and 40% in Asia) affirm that the pandemic has strengthened their commitment to considering ESG issues. Similarly, 93% of corporate issuers see ESG factors as more important to their strategy.

Aside from governments, investors said that regional corporate issuers will also likely take advantage of the demand for Sharia compliant ESG financing.

“Well-telegraphed names such as Utico would benefit from a strong flow-driven bid for sustainability-linked instruments, although disappointing developments in corporate governance with some existing corporate issuers imply that discerning institutional investors would take a more cautious view in their credit work and pricing assumptions,” said ENBD’s Rajpal.

Rizwan Kanji, Partner at Akin Gump, said that increasing demand for Sharia compliant ESG products benefit the issuer in terms of pricing of sukuk. “The cost of funding will play a significant role in the issuer’s thought process while considering issuance of sukuk,” he said. “Similarly with macro-economic considerations in mind, issuers may also consider bells and whistles to help reduce the cost of funding considerations, such as issuing ESG sukuk.” 

Past AAOIFI Standard 59?

One of the biggest challenges for the sukuk issuers and investors continues to be the Bahrain-based Accounting and Auditing Organisation for Islamic Financial Institutions’ (AAOIFI) Standard 59 on the sale of debt. This has been particularly challenging in the UAE, where the central bank’s Higher Sharia Authority (HSA) has been stricter in enforcing AAOIFI standards on all sukuk issuers and Islamic lenders in the country.

The standard poses a specific challenge for issuers with hybrid sukuk structures whereby 51% of the sukuk assets have to be tangible and 49% can be non-tangible in order to be Sharia compliant. Prior to stricter legal enforcement by HSA, an issuer was required to have a minimum ratio of 51% tangible assets and a maximum of 49% intangible assets only at issuance. However, stricter enforcement requires the tangibility ratio to be maintained at 51% through the lifetime of the sukuk. 

Mohamed Damak of S&P said there are three main risks for the market stemming from AAOIFI Standard 59. The first is residual asset risk: “For some structures, the risk is increasing as a partial loss event - in addition to total loss event - becomes relevant,” he said. “Indeed, in a transaction with several assets, if one or more are destroyed, the tangibility ratio could be breached.”

He said that the second risk is investor ranking in a potential liquidation or default situation. “Standard 59 affects the language related to the indemnity typically offered by the sukuk sponsor as an independent entity in case it fails any of its contractual obligations. This could make the sukuk creditors akin to subordinated creditors,” he added.

The third risk is an increasing liquidity risk for issuers and investors: “Standard 59 creates new potential scenarios for early sukuk dissolution,” said Damak. “If the issuer has insufficient unencumbered assets on its balance sheet, there could be sukuk acceleration and repayment before maturity.”

Damak said that these challenges increase the risk of non-payment to investors and increase the cost of sukuk when compared to conventional debt. “Some issuers are selecting other financing initiatives than the sukuk market because of the complexities involved,” he said. 

Nevertheless, most market stakeholders are confident that issuers and investors have figured out what to do.

“AAOIFI Standard 59, which initially at the beginning of 2021 provided some challenges to structuring of sukuk, has now been by and large addressed by stakeholders and the market and we have seen significant volume of issuances in compliance with AAOIFI in the second half of 2021,” said Akin Gump’s Kanji.

The Islamic DCM banker in Dubai broadly agreed and said that the core of the industry is coming out of it. “From the issuers we are speaking with, they are adapting their programmes to account for the required changes,” he said. “What we do notice though is that it [Standard 59 requirements] does pose a challenge when you try to attract new issuers or investors to this market.” 

Kanji said non-UAE issuers who wish to target investors from the UAE or have arrangers from the UAE, will need to ensure that the sukuk structure and documents are in compliance with AAOIFI and HSA requirements. 

“For repeat issuers this may mean that it isn't simply a process of using previously utilised documents but there will be a requirement for some investment of time to ensure that the documents are amended to reflect the AAOIFI and HSA requirements,” he said.

Mixed issuer pipeline

Outside of core Islamic finance markets like the GCC, Malaysia, Indonesia, Pakistan and Turkey, the pipeline for other sukuk issuers is mixed.

Among the most widely anticipated debutant sukuk issuers is the Egyptian government. The Arab world’s most populous nation is expected to sell up to $2 billion in Sharia compliant sukuk in the first half of this year.

“Egypt broadens the pool of high yield issuers that sukuk investment managers can invest in,” said a UAE-based fixed income portfolio manager.

Uzbekistan continues to work with the UN Development Programme (UNDP) and the Islamic Development Bank via the Islamic Corporation for the Development of the Private Sector (ICD) on a potential green sukuk issuance.

Elsewhere, newer sukuk markets like Bangladesh are likely to see more domestic sukuk issuance this year.

Other issuers likely to tap their local markets include South Africa. The country has previously stated its intention to sell a Rand-denominated sukuk during FY 21/22, although a deal has yet to materialise.

In an emailed statement to Salaam Gateway, a South Africa National Treasury spokesperson said: “The process of issuing domestic sukuk has begun. Once the process is finalised, the information will be communicated.”

In March 2021, Salaam Gateway reported that the National Treasury is working with Rand Merchant Bank and Standard Bank on the planned local currency Islamic debt issuance. South Africa sold its first ever sukuk, an international US dollar denominated issuance in 2014. The deal consisted of $500 million 5.75-year ijara sukuk with a 3.90% profit rate. 

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