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RAM Ratings: Secondary trading in sukuk still lacking

While the global sukuk market has made great strides, much remains to be done. Highlighting the challenges that need to be addressed, RAM Ratings opines that there is still a dearth of secondary trading in sukuk.

Speaking at the 6th annual Islamic Market Programme 2011 organised by the Securities Commission, RAM Ratings' head of Islamic Ratings, Zakariya Othman, emphasises that an active secondary trading platform for capital-market instruments is vital to the development of capital markets, including Islamic finance. "Such a platform will allow investors the flexibility to manage their liquidity requirements," he adds, noting that more needs to be done in terms of creating a continuous supply of Islamic instruments that will promote secondary trading and add depth to the market.

Many sukuk investors have been adopting a "buy and hold" stance; they are content with the current good yields. This is both a consequence and a cause of the market's illiquidity, with many sukuk offering better yields over conventional bonds with similar ratings and tenures. There have been many recent issues where investors have held on to their initial investments until maturity.

Zakariya explains that one of the reasons for the lack of a secondary market is the limited size of the primary sukuk market. He observes that there are not enough issues in the market where investors experience difficulty in finding a replacement for the paper that they have sold or intend to sell. He quips, "If you are holding a good paper, why sell?"

The sukuk market has fallen foul of the classic cycle; a shortage in the primary market has led to over-subscription and thus immediate par-plus revaluations, where holders are disinclined to sell and take profit. According to Zakariya, there must also be greater

diversity in terms of the type and maturity of the sukuk in the market, so that Islamic financial institutions and portfolio managers can manage their funds effectively. As part of its efforts to address these issues, he commends the Malaysian Government on the regular issuance of sukuk with different maturities, in order to create a benchmark yield curve.

Since 2000, there has been an auction calendar for both conventional and Islamic sovereign papers. In 2005, the Government started issuing shorter term Islamic treasury bills and longer-dated sukuk (with a maturity of 10 years), to further diversify the range of instruments available to investors.

Meanwhile, market growth is also challenged by pricing issues. For Islamic securities to be efficiently priced and credible, further initiatives need to be taken to develop a suitable indicator. On this note, Zakariya says that if a sukuk is issued based on the Ijarah principle and uses property as its underlying asset, rental may be used to determine the rate of return on the instrument. "It will then fluctuate depending on the supply and demand for that property, thus giving a true reflection of the price of the underlying asset," he adds.

Just as important is the convergence of Shariah principles and interpretations, to engender confidence among investors from different parts of the world. To achieve this, there must be continuous investment in intellectual capital and greater engagement among Shariah scholars. Zakariya stresses that scholars who are the authorities in making Shariah decisions must be willing to call a spade a spade, declaring it wrong when it is and right when the moral compass is correct. "There are no sacred cows or ideologies that are not worth being questioned," he notes, pointing out that diversity of opinions and approaches leads to a superior discourse and outcome, rather than "one size fits all" policy prescriptions.

Zakariya acknowledges that the regular engagement that is now taking place among scholars is already producing this convergence, with more cross-border transactions observed. He states, however, that while there are still many challenges to overcome, the general direction and potential of the global sukuk market are certainly well

Media Release recognised. "Greater engagement between the industry, the scholars and the authorities will create greater awareness, understanding and appreciation of the issues, thereby providing an environment where the full potential of Islamic finance can be realised," he points out, concluding that this is indeed the real challenge for the industry.

-Ends-

Analytical contact
Amir Shazlan Kamarudzaman
(603) 7628 1168
shazlan@ram.com.my

© Press Release 2011

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