S&P Global expects global sukuk issuance to reach about $160 billion-$170 billion in 2024, from $168.4 billion at year-end 2023 and $179.4 billion in 2022. The decline in the volume of issuances in 2023 was mainly due to tighter liquidity conditions in Saudi Arabia’s banking system. Moreover, Indonesia’s lower fiscal deficit also played a role. However, the decline was, to some extent, compensated by an increase in foreign currency-denominated sukuk issuance.
The S&P Global report revealed the following:
Interest rates
Foreign currency-denominated sukuk issuances benefited from clarity in the medium-term trajectory of interest rates at the end of 2023, as they increased by a third compared to 2022. S&P Global expects that interest rates will remain broadly supportive in 2024. Although the Federal Reserve may postpone interest rate cuts later than market expectations, financing needs in core countries remain high, given the ongoing economic transformation programs. It is also worth noting that Saudi Arabia and its Vision 2030 have boosted issuances in 2023 and will continue to do so in 2024.
Another type of sukuk that achieved strong growth is sustainable sukuk, whose issuances continued to increase in 2023, albeit from a low base. As Islamic finance remains concentrated in oil-exporting countries that aim to reduce their carbon emissions, S&P expects the increase in sustainability sukuk issuances to continue. Likewise, S&P believes that digitalization can open up some opportunities as it may simplify the process of issuing. However, this requires standardizing legal documents and agreeing on a unified interpretation of the relevant Sharia texts.
Sharia texts
The lack of a unified interpretation of the relevant Sharia texts could lead to an imbalance in the medium term, especially given the possible adoption of the Accounting and Auditing Organization for Islamic Financial Institutions’s (AAOIFI) Sharia Standard 62. Among others, this standard, which is still in the drafting stage, requires that the ownership and the risks related to the underlying assets are transferred to sukuk holders. As a result, the repayment may become more dependent on the performance of the underlying assets, their market value, or the sukuk holders’ decision to sell these assets to third parties. This may have a significant impact on the existing sukuk structures and the risks borne by sukuk holders.
More supportive liquidity conditions
Global sukuk issuances declined by 6.1 percent to $168.4 billion in 2023, compared to $179.4 billion in 2022. S&P Global expects issuance to reach between $160-170 billion in 2024 due to rising financing needs in some key Islamic finance countries and the potential for improved global liquidity conditions. However, geopolitical risks and their impacts on regional market sentiment as well as the possibility of postponement of interest rate cuts due to static inflation may pose risks to the outlook.
Local currency-denominated Sukuk
Local currency-denominated Sukuk issuances declined by 16.8 percent year-on-year, mainly as a result of lower issuances in Saudi Arabia and Indonesia. Liquidity preservation in the banking system has been at the top of Saudi Arabia’s agenda. Hence, the government and its associated entities continue to inject liquidity into the banking system and the decline in the issuance of local currency-denominated sukuks. In Indonesia, rapid fiscal consolidation and the associated reduction in government financing needs reduced the government’s issuance of local currency-denominated sukuks. In contrast, local currency-denominated sukuk issuances increased in the United Arab Emirates and Turkey due to the increase in government issuances. S&P Global expects an increase in issuances in the UAE over the next few years as the authorities continue their efforts to develop the local capital market.
Foreign currency-denominated sukuk
On the other hand, the volume of foreign currency-denominated sukuk increased. Better clarity in the path of interest rates at major central banks contributed to an increase in foreign currency-denominated sukuk issuances by about a third in 2023, compared to 2022. Therefore, the market returned to 2021 levels due to a rise in foreign currency-denominated issuances in Saudi Arabia and the UAE. Moreover, the entry of new players into the sukuk market, including Egypt, Air Lease, and the Philippines also contributed to that growth.
In February 2023, Egypt sold its first sukuk at a price similar to the price of traditional bonds. One month later, Air Lease completed its first sukuk issuance using some of its leased aircraft as underlying assets. Moreover, in November 2023, the Philippines sold sukuks worth US$1 billion, which were oversubscribed 4.9 times. Therefore, the report expects that the foreign currency-denominated sukuk market will continue to benefit from favorable conditions. Hence, interest rate cuts are likely to materialize in mid-2024. Moreover, financing needs in core Islamic finance countries, such as Saudi Arabia, will remain high.
Sustainable sukuk
The total volume of sustainable sukuk issuances continued to increase in 2023, compared to 2022. The report expects issuance to increase as issuers meet investor demand and key Islamic finance countries seek to reduce their carbon footprint. The UN Climate Change Conference (COP28) shed more light on opportunities for Islamic finance in general and instruments in particular to address climate change.
Core countries for Islamic finance, such as the Gulf states, are implementing strategies aimed at achieving net-zero emissions. This may drive sustainable sukuk issuances in 2024. S&P Global expects to see more activity in this area as issuers seek to attract interest from global investors and incentives from regulators. When analyzing sustainable sukuk issued in 2023, three distinct characteristics stand out.
Green Sukuks represented the majority of sustainable sukuk issuances in 2023. This is consistent with the energy and climate transition agendas in Islamic countries.
Moreover, corporations are the main issuers of sustainable sukuk, closely followed by banks. Banks have begun entering the sustainable sukuk market over the past few years. Hence, they aim to diversify their investor base and contribute to financing green and social projects. This generally falls in line with the strategies of their home countries.
Furthermore, UAE issuers accounted for 40 percent of total sustainable sukuk issuances in 2023. This is related to the recently concluded COP28 in the UAE. However, it is also linked to the fact that UAE regulators exempted sustainable sukuk from registration fees in 2023.
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Digital transformation
The progress of tokenization affects the sukuk market. S&P Global believes that digital sukuks can provide a faster and less expensive way for issuers to enter Islamic finance markets due to the small number of intermediaries involved. Other benefits may include enhanced transaction security, traceability, and integrity, which may enhance Sharia compliance. However, this requires the availability of reliable technology, legal frameworks to adopt these tools and standard legal documentation. Moreover, standardizing the interpretation of Sharia texts and adapting them across geographical regions are also critical factors for success.
Reducing the amount of time, cost, and minimum requirements for issuing sukuks can open up the sukuk market to more issuers. In addition to traditional risks, including credit market and liquidity risks, investors in digital instruments will face operational risks related to technology and cybersecurity. Digital sukuks will also require an Islamic stablecoin or central bank digital currency.
Sharia Standard 62
In late 2023, AAOIFI published a draft of Sharia Standard 62 on Sukuks. It subsequently extended the deadline for sector feedback until March 31, 2024. If adopted, Sharia Standard 62 could have a significant impact on the Sukuk market. Among others, the standard requires that the ownership and the risks related to the underlying assets are transferred to sukuk holders. However, this may weaken the contractual obligations of the sukuk sponsors if payment becomes dependent on the performance of the underlying assets, their market value, or the decision of the sukuk holders to sell these assets to third parties. As a result, some traditional fixed-income investors may move away from the sukuk market. In turn, this may change the pricing dynamics of such transactions to account for potential additional risks.
At this stage, it is difficult to know whether Sharia Standard 62 will be amended and how countries that have adopted AAOIFI’s standards might react to the potential imbalance in their sukuk markets. There is also another potential consequence of implementing Sharia Standard 62, which could lead to greater fragmentation of the sukuk market and a clearer distinction between those adopting and not adopting the standard. Even if the standard is adopted this year, its implementation may be postponed to the coming years, which may lead to a rush to instruments before its adoption.
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