Legal changes have paved the way for the growth of Islamic bonds

While the growing global Islamic bond ( sukuk) market represents an increasingly important source of financing for businesses across the world, to date interest has been fairly limited in Turkey. However, the market is expected to grow rapidly, partly thanks to legal changes that make sukuk issuance more attractive, as well as the government’s plans to float sharia-compliant bonds.

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A NEW PRODUCT: Issuance of sukuks has been allowed in Turkey since April 2010, when the Capital Markets Board promulgated a new rule regarding “leasing certificates”, as sukuks are known locally. Lawmakers subsequently amended the tax laws in February 2011 such that leasing certifications of the Al Ijaratype are exempt from value-added, stamp and corporate taxes, while reducing withholding taxes to 10%. Then in April 2011, legislation was passed that exempts sukuks with a minimum tenure of five years from revenue taxes, while those of a shorter maturity are subject to rates of 3-5%, bringing them in line with those of corporate bonds.

These changes have already started to have an effect, beginning with Kuveyt Türk’s August 2010 issuance of a three-year, $100m sukuk. The participation bank – as Turkey’s Islamic lenders are known – then floated a $350m, five-year sukuk in October 2011. Liquidity Management House, an investment company wholly owned by Kuwait Finance House, which also holds a 62% stake in Kuveyt Türk, was one of the joint lead managers on the sukuk, along with HSBC, Standard Chartered Bank, Abu Dhabi Islamic Bank and Commerz Bank. Issued at par with a coupon of 5.875%, the sukuk is listed on the London Stock Exchange. While the trading of sukuks – or any Islamic securities for that matter – is not currently available on the Turkish bourse, MKB Borsa Istanbul ( MKB), this could change, İbrahim Turhan, the chairman and CEO of the MKB, told OBG.

The Kuveyt Türk sukuk attracted orders totalling almost $550m, with investors from the Gulf accounting for nearly 70% of subscribers. Osman Arslan, the general manager of AT Bank, told OBG, “Gulf investors like Turkey – it is easy to do business, the population is very young, the country is experiencing rapid GDP growth and it is a safer place to invest than the West as the regulatory authorities are more cautious.”

Two other Turkish participation banks – Bank Al Baraka and Bank Asya – have signalled their intention to sell Islamic bonds, in part due to their limited funding options beyond deposits. In October 2011 Bank Asya announced it had lined up Citigroup and UBS to manage the issuance of a five-year sukuk with a volume of up to $300m, but in November the lender said it had postponed the project due to adverse market conditions. Bank Al Baraka had intended to issue a $200m Islamic bond in December 2011 but delayed the sale.

However, the lender’s CEO told Bloomberg in February 2012 that the bank might offer the Islamic bond by June.

SOVEREIGN BORROWING: Banks and other businesses could be encouraged to borrow using Islamic instruments by the issuance of a sukuk by the state, as it would provide a benchmark for corporate Islamic bond issues in Turkey. A number of governments in the Gulf and Asia, as well as in European countries such as Germany and France, have issued sharia-compliant sovereign debt in recent years. In January 2012 Deputy Prime Minister Ali Babacan announced that Turkey planned to issue a sukuk once the necessary laws are in place.

While the government has not revealed the amount that it might borrowing using this instrument, Osman Akyuz, the secretary-general of the Participation Banks’ Association, told Reuters that he expected issuances of $500m or $1bn, adding that these funds could be used to finance major infrastructure projects such as the third bridge over the Bosphorus. However, challenges to a sovereign issuance remain. For example, the yield premiums on government sukuks are generally higher than those for conventional sovereign debt, with a differential of perhaps more than 100 basis points expected in the case of Turkey. On the other hand, continually turning to conventional debt markets could drive up costs for the government, so access to new sources of funding could ultimately prove beneficial.