by Stephan Pouyat, Global Head of Capital Markets and Funds Services, Euroclear
Sukuk market needs more harmonisation
As we enter the countdown to next week’s IMF Annual Meetings in Washington DC, I’m further reminded of how we can support greater integration with, and capital flows to, developing economies.
The aim? To help build marketplaces that support economic and social development.
Next week, I’ll be joining a panel of the world’s leading ministers of finance – from Italy and Nigeria to Mexico and Saudi Arabia – and representatives from the Agence UMOA-Titres and the World Bank.
This is a fantastic chance to discuss the future structure of the sukuk market, how institutional investors can better access the asset class, and how to increase uptake among investors.
The market in Islamic sharia-compliant bonds – or ‘sukuk’ – has mushroomed over the past decade. At the end of last year there was around USD 350bn of sukuk outstanding, more than half issued by Malaysian issuers.
In 2016 and 2017, we at Euroclear, saw two large Saudi Arabian issuances totaling USD 26.5bn. A pure standard Eurobond (USD 17.5bn) and an international sukuk issuance (USD 9bn).
Interestingly, four-fifths of the sukuks held in the Euroclear system are in Eurobond form and investor interest in what are fully collateralised instruments goes well beyond the traditional issuance regions of the Middle East and South East Asia.
For example, over 35% of the USD 9bn international sukuk issuance above went to Europe and the United States.
Sukuk issuance picked up strongly in the first half of this year. But events over the summer have highlighted the pressing need for more standardisation in this market after an issuer declared its own issue unlawful.
It is not for me to comment on the rights and wrongs of this case. But it does underline the desirability of consistent, global standards – in structuring, documentation, regulation, accounting and reporting.
The need for more standardisation is widely recognised. Malaysia must be applauded for establishing a centralised national sharia board. It is also pushing for global standards and monitoring.
The Accounting and Auditing Organisation for Islamic Financial Institutions (AAOIFI), a Bahreini organisation in existence since 1991, has been instrumental in establishing a host of standards across the industry. It recently issued exposure drafts on central sharia boards and accounting.
At Euroclear, we too are playing our part. We have been working on harmonising the different accounting and reporting standards in this area. I firmly believe that the widespread adoption of a sharia-compliant reporting standard will go a long way towards improving the efficiency of this market.
This is something that should concern not just investors, but issuers too.
Over the last few years the Euroclear team has worked with the International Islamic Financial Market to build a solution that helps financial institutions create liquidity and manage risk.
The solution aligns with the Master Collateralized Murabaha (MCM) agreement to offer users a choice between a bilateral and triparty model.
They both work to secure the exposure of a lender with securities from a borrower in the form of a pledge. And, most importantly, they are both Sharia compliant.
Another big development of recent years has been the emergence of Exchange Traded Funds (ETFs) based on sukuk indices.
These make life easy for investors by reducing investor access issues and boosting liquidity. They are traded on leading exchanges with the post-trade work taken care of by Euroclear or local CSDs.
But, by and large, the indices on which the Sharia ETFs are based are made up of internationally issued, dollar-denominated sukuk.
That leaves domestic, local currency sukuk, which make up about a fifth of the market, out in the cold. This opens up the possibility of a two-tier market.
Harmonisation and standardisation are vital ingredients for any international market. That is especially true of such complex instruments as sukuk, and we will go on working towards unified reporting standards.
So, is now the time for the sukuk market to blossom?
As Global Head of Capital Markets and Funds Services at Euroclear, Stephan Pouyat cares passionately about aligning the financial sector with moves to accelerate development among the world's emerging economies.