Sukuk Rally Shows Strength In Indonesia Demand: Islamic Finance

UK drew record bids before debuts by Luxembourg, Hong Kong and South Africa.

A Bloomberg index tracking dollar-denominated Shariah-compliant debt from 43 sovereign and corporate issuers rose to an all-time high this week, as supply was limited amid the worst quarter for new issuance since 2010. Indonesia’s $1.5 billion offering of 10-year notes on Sept. 2 got more than $10 billion of orders, with a combined 35 percent allocated to investors in the U.S. and Europe, the same as from the Middle East.

“The rally in Islamic bonds basically reflects the demand and supply,” Wan Kamaruzaman Wan Ahmad, the chief executive officer at Kumpulan Wang Persaraan (Diperbadankan), the second-biggest Malaysian pension fund with $27 billion in assets, said in an interview in Kuala Lumpur yesterday. “We are seeing a lot of Islamic funds chasing investible paper.”

Luxembourg and Hong Kong have hired arrangers for their sales planned for September, after the U.K. became the first non-Muslim country to tap a market with $1.7 trillion of Islamic banking assets. While the average yield on debt that complies with Muslim tenets has dropped to a three-month low, it’s almost twice that available on U.S. Treasuries.

‘Strong Appetite’

The Bloomberg Malaysian Sukuk Ex-MYR Index has climbed 4.4 percent this year and touched an unprecedented 117.69 on Sept. 1. The average yield on global Islamic bonds fell 64 basis points in 2014 to 2.78 percent, the lowest since May 29, according to a Deutsche Bank AG gauge. That compares with a drop of eight basis points, or 0.08 percentage point, to 1.56 percent on the Bank of America Merrill Lynch U.S. Treasury Index.

Indonesia turned to the debt market just as investor confidence is improving on optimism Joko Widodo, who is due to takeover the presidency on Oct. 21, will enact reforms. The nation cut borrowing costs on its 2024 Islamic notes to 4.35 percent this week, compared with the 6.125 percent it paid on sukuk maturing in 5.5 years in September 2013 and the record-low 3.3 percent on 10-year Islamic debt the previous year.

The dollar sukuk maturing in September 2024 yielded 4.27 percent as of 11:20 a.m. in Jakarta, according to data compiled by Bloomberg.

“There’s a lot of demand for sukuk at this juncture,” Lam Chee Mun, a Kuala Lumpur-based fund manager at TA Investment Management Bhd., which oversees about 680 million ringgit ($214 million), said in an interview yesterday. “The strong appetite for Indonesia’s sukuk was probably due also to optimism driven by the new president.”

South Africa has hired banks for its debut offering of Shariah-compliant notes, while Bangladesh and Tatarstan are also planning maiden sales to tap liquidity in an industry that Ernst & Young LLP forecasts will see Islamic banking assets rise to $3.4 trillion by 2018. The U.K.’s 200 million pound ($329 million) debut in June drew bids for 10 times the offer.

Fed Impact

While sukuk yields have fallen, issuers face the risk that yields will start to climb should the U.S. raise interest rates. Futures contracts show traders are penciling in July as the most likely date for the first such move, with odds at 54 percent.

“Sukuk will not be fully insulated from the impact if there is a rise in U.S. Treasury rates,” Ezra Nazula, head of fixed income at PT Manulife Aset Manajemen Indonesia in Jakarta, who oversees more than $2 billion, said in an e-mail interview yesterday. Sukuk give a “sweetener” in that they have relatively higher yields, he said.

Global sales of bonds that pay returns on assets to comply with Islam’s ban on interest dropped 69 percent so far this quarter from the previous three months to $4.4 billion, according to data compiled by Bloomberg. In 2014, issuance totals $29.7 billion, compared with last year’s $43.1 billion and the 2012 record of $46.5 billion.

Quality Scarcity

The low rate of offerings this quarter is also reflected in Malaysia, the world’s biggest sukuk market. While sales declined 28 percent from June 30 to 9.7 billion ringgit, the Bloomberg-AIBIM Bursa Malaysia Corporate Sukuk Index climbed 0.9 percent to a record 106.71.

“I would say that Shariah-compliant liquidity is in great supply,” Thomas Christie, head of fixed income at Prometheus Capital Finance Ltd. in Dubai, said in an e-mail interview yesterday. “With a relative scarcity of quality sukuk names to invest in there is definitely a supply/demand dynamic in play here, pushing yields lower.”

Originally published on www.bloomberg.com