Sharia-compliant debt tools set for a comeback after pandemic
Crisis gives governments, corporates and institutions the chance to raise capital at attractive rates via bonds and sukuk
The coronavirus pandemic has wreaked havoc amid major uncertainties in global markets and everyday life. Governments are still weighing up the economic challenges posed by Covid-19, with many announcing economic stimulus packages.
It provides a chance for governments, corporates and institutions to raise capital with more attractive rates via bonds and sukuk. Investors will also seek such safer-haven assets, thereby enhancing and empowering the sukuk and Islamic capital markets. Sukuk, or sharia-compliant debt instruments, are therefore set for a major comeback once issuers and investors readjust to the post-Covid era.
Sukuk is an interest-free borrowing instrument that can be realised as a medium- or long-term export with fixed or variable coupon. Sukuk may be issued as a certificate expressing the rights or obligations of the owner by issuing a name or a bearer. They are essentially asset-backed instruments representing actual sale or beneficiation over assets.
Having an easy and effective payment structure, sukuk provides the investor with a steady income stream with less volatility than conventional bonds. The various structures allow for flexibility as the musharakah and mudarabah concepts allow for risk sharing within the issuer vehicle.
Lower oil prices will significantly widen fiscal deficits in major sukuk markets such as the Gulf Co-operation Council countries
Sukuk instruments are generally hedged through assets that allow for direct and fixed-income payments without any currency or price fluctuation risks. This allows for diversification linked to actual assets, as opposed to the conventional bond market. Sukuk instruments can also be rated by the major ratings agencies and listed on the world’s major stock exchanges.
Sukuk allows for investments into non-sin related industries only and can be compared to environmental, social and governance (ESG) and impact-related bond instruments. Issuers and promoters have access to largely untapped Islamic capital markets in key jurisdictions. This leads to further ethical investments due to brand and market exposure to Islamic capital markets worth several trillion dollars.
Lower oil prices will significantly widen fiscal deficits in major sukuk markets such as the Gulf Co-operation Council (GCC) countries. While other sukuk issuers such as Indonesia could benefit from lower oil prices as they are net oil importers, the negative effects of lower commodity export prices and reduced tourism revenues caused by the global pandemic will hinder economic growth. Many emerging-market economies in Africa and Asia will also seek to issue sukuk as they seek alternative financing for major infrastructure projects, especially after the chaos caused by Covid-19.
International sukuk and bond markets, together with the domestic markets, provide the additional access necessary to safeguard finances, though it is one component in the funding mix (which includes equity, quasi-equity, syndicated and mezzanine financing, and other forms of borrowing). These developments, among other measures, are expected to accelerate sukuk and sharia-compliant bond issuances to bridge the fiscal deficit.
Combination of challenges
In the latest quarterly World Economic Outlook, the International Monetary Fund (IMF) has drastically lowered the baseline global economic forecasts, with the oil price forecast being lowered to an annual average of $35 per barrel of Brent crude for 2020, compared with a previous forecast of $58.03 in January 2020. The move was due to the collapse of Opec+ co-operation and the subsequent global oil trade fallout.
During the first two months of 2020 the sukuk market witnessed strong market activity. However, new sukuk issuance is now extremely sluggish as economies gradually open up in key markets. Many incumbent sukuk-issuing jurisdictions face an unprecedented combination of challenges, including health issues, reduced oil revenues, severe economic disruption, and changes in liquidity and investor sentiment.
However we have received numerous issuer and investor proposals indicating activity within the space as major sukuk and Islamic capital markets slowly open up. The pipeline for sukuk issuance in 2020 looks strong as major issuers ramp up their fiscal and capital market activities to plug major budget deficits and shore up cash reserves amid the chaos caused by Covid-19.
In Africa there remains huge untapped opportunity for issuers to tap the growing pools of Islamic capital market liquidity. Senegal became the first African nation to issue sovereign sukuk in 2014, followed in quick succession by SA, Ivory Coast, Niger, Morocco and Nigeria, among others.
The pipeline for African sukuk issuers looks promising with the governments of Mauritius, Algeria, Egypt, Nigeria and SA seeking to issue sukuk in 2020. Many corporate issuers have also expressed an interest, such as state-owned utilities including Eskom, Transnet, Prasa, PetroSA, Egypt Air, Egyptian National Railways, Nigerian Coal Corporation and Telkom.
The recent developments caused by Covid-19 could trigger major corporate sukuk issuances as corporates and institutions try to seek alternative and diversified forms of funding, due to liquidity pressures, uncertain environment and changing circumstances.
• Desai, a sharia scholar, is CEO of Global Islamic Financial Services Firm.
Would you like to comment on this article or view other readers' comments?
Register (it’s quick and free) or sign in now.
Please read our Comment Policy before commenting.