Kuwait: Large-scale sukuks

While Kuwait has to date played a relatively small role in the fast-growing global market for sukuks, or Islamic bonds, this could change, should lawmakers develop and implement a more robust legal framework to regulate the issuance of sharia-compliant debt.

In the meantime, however, two entities with strong ties to the country – Kuwait-based Gulf Investment Corporation (GIC) and Kuveyt Turk participation bank, which is 62% owned by Kuwait Finance House (KFH) – have in recent months raised funds by selling sukuks.

In August, the GIC announced that it had issued a five-year, RM750m ($239.8m) Islamic bond in Malaysia, the second installment of a much larger 20-year, RM3.5bn ($1.1bn) medium-term wakala bi istithmar (Arabic for “agency for investment”) sukuk programme.

The GIC, which plans to use the funds to finance its general working capital requirements, was established in 1983 by the GCC and is owned by the six member states: Bahrain, Kuwait, Oman, Qatar, Saudi Arabia and the UAE. It has invested in companies such as Saudi Arabia’s National Titanium Dioxide and Bahrain’s Gulf Industrial Investment, which manufactures iron oxide pellets.

Wakala sukuks are an increasingly popular form of Islamic bond, in part because they are considered sharia-compliant in both Malaysia and the GCC. According to research by Saudi Arabia-based National Commercial Bank, of the $64.5bn worth of sukuks issued worldwide during the first three quarters in 2011, wakala sukuks accounted for $5.3bn, or about 8% of the total. By comparison, this type of Islamic bond made up only 4% of sukuks issued in 2010.

The 20-year sukuk programme is the not the first time the GIC has turned to Malaysia’s capital markets for funds, having issued a dual-tranche conventional bond there in 2008. According to public statements by Hisham Al Razzuqi, the GIC’s CEO, the investment firm’s latest move may well be part of a larger regional trend. “We anticipate more issuers from the GCC region following suit in tapping into non-traditional sources to obtain long-term funds,” he said.

According to Reuters, other GCC-based entities that are considering the issuance of sukuks include Bahrain’s Gulf International Bank and the government of Dubai.

For GCC companies looking to float sharia-compliant debt, it is easy to see why Malaysia, which has one of the most advanced Islamic legislative frameworks in the world, is an attractive option. This is in contrast to Kuwait, where the legal structure for sukuks remains relatively undeveloped.

Although a 2007 ministerial decree allowed the issuance of Islamic-compliant bonds, experts have opined that further legislative changes would be necessary to allow the market to flourish. In fact, no sukuks have ever been issued domestically in Kuwait, while there were only nine international issuances by Kuwait-based entities between 2001 and 2010, according to the International Islamic Financial Market, the Malaysia-based global standardisation body for Islamic finance. The combined value of these sukuks was $1.58bn, less than 1% of the total value of all sukuks issued globally during this period.

The government of Kuwait, however, has moved to address this with new sukuk laws, which are presently under development. This would be in line with the government’s decision to establish a Capital Markets Authority, which began operations in 2011 and is expected increase transparency and improve the overall functioning of Kuwait’s capital markets. Such legal changes could lay the groundwork for an increase in Kuwait’s sharia-compliant bond activity.

The importance of a robust legal framework to support the development of a local sukuk market was underscored by recent events in Turkey, which in October saw the issuance of a $350m, five-year sukuk by Kuveyt Turk participation bank, a Turkey-based sharia-compliant bank.

Issuance of sharia-compliant debt has been allowed in Turkey only since April 2010, when the sector’s regulator, the Capital Markets Board, promulgated a new rule regarding “leasing certificates”, as sukuks are known locally. Lawmakers subsequently amended the tax laws in early 2011 such that leasing certificates of the “al Ijara” type would be exempt from certain taxes, bringing the tax structure for Islamic debt in line with that applied to conventional bonds.

Liquidity Management House, an investment company wholly owned by KFH, was one of the joint lead managers on the Kuveyt Turk 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 attracted orders totaling almost $550m, with investors from the Gulf accounting for nearly 70% of final subscribers. The Islamic bond, which was rated BBB- by Fitch, will be listed on the London Stock Exchange.

The “tax neutral” environment is widely expected to boost the issuance of sharia-compliant bonds in Turkey. Indeed, as Mohammad S Al Omar, the CEO of KFH, told OBG, the country represents one of several growing markets for sukuks. “Demand for sukuk products and services is high not only in the GCC, but also in the EU and in emerging economic powerhouses such as Turkey,” he said.

Two other Turkey-based sharia-compliant banks, Bank Asya and Albaraka Turk, have already signaled their intentions to issue leasing certificates in the near future, with the former having completed a road show for a potential five-year sukuk of up to $300m.

The recent increase in Islamic finance activity in Turkey is part of a broader global story, with the market for sukuks in particular continuing to grow every year. Kuwait could be a part of this trend, should the government make legislative changes that would allow the issuance of sukuk on a larger scale.