Making Steady Progress

Zeeshan Awan Head of Islamic Banking at National Bank of Fujairah, provides a rounded account of the current shape of the Islamic finance sector in the current global climate with views of what we can expect to see develop in this market

Global sukuk issuance has moderated through 2022, what do you see as the reasons for this?

Economic and geopolitical developments earlier in the year only had a muted impact on Sukuk markets. Issuance eventually slowed on the back of two trends: multiple interest rate hikes by the Federal Reserve and other central banks and persistently high oil prices.

The Federal Reserve has hiked its respective benchmark interest rates 5 times, taking the interest rates from almost zero to 3.00-3.25 per cent in September. This monetary tightening strengthened the dollar, which meant that most sovereign Sukuk issuers relied on borrowing from domestic rather than international markets in the first six months of this year.

Soaring oil revenues meant reduced government funding requirements in core Sukuk markets such as Saudi Arabia and thus smaller issuances in these markets. The Kingdom reported a $21 billion budget surplus in Q2, boosted by an 89 per cent increase in oil income from the previous year. Despite this, the Saudi government has pledged that its spending will not be influenced by oil price movements and will continue to curb spending this year, signalling smaller issue sizes ahead.

The governments of Turkey, Pakistan, Indonesia and the Emirate of Sharjah were the only sovereigns to issue international Sukuk, collectively raising just $8 billion. Meanwhile, a single $1 billion issuance sufficed for the Islamic Development Bank, usually a big issuer in international Sukuk markets. The market has also witnessed a growth in ESG linked sharia compliant sukuk, which we expect to have more traction going into the future.

Economists at the Federal Reserve expect further benchmark rate increases will reach a range of 4.44 percent by end of 2022 and to peak around 4.625 per cent in 2023 %. These multi decade elevated levels of high rates will likely deter some issuers from borrowing in international markets. Still, despite increasing costs for dollar debt, there is an opportunity for issuers below investment grade to negotiate more favourable rates as higher sukuk yields attract bargain-hunting investors.

How are commodity prices affecting the current economic outlook in core Islamic finance markets?

At the macroeconomic level, higher commodity prices (particularly for hydrocarbons and palm oil) are expected to underpin a more robust recovery in major Islamic finance markets such as the Gulf states, Malaysia and Indonesia. Moreover, inflation in these countries will also remain moderate because of government subsidies and interest rate hikes.

The outlook is also positive for the Islamic banking sector. Financing to public-sector employees, who enjoyed stable employment during the pandemic, constitutes the lion’s share of retail financing in the GCC region. This focus on retail financing, plus prudent underwriting and the development of strong provisioning buffers, mean that

Zeeshan Awan, Head of Islamic Banking, NBF THIS FOCUS ON RETAIL FINANCING, PLUS PRUDENT UNDERWRITING AND THE DEVELOPMENT OF STRONG PROVISIONING BUFFERS, MEAN THAT THE RETURN ON AVERAGE ASSETS OF ISLAMIC BANKS LOOKS SET TO IMPROVE

the return on average assets of Islamic banks looks set to improve.

Profitability will be further driven up thanks to efficiency gains from digitalisation, as well as rising interest rates, particularly in the Gulf states where domestic currencies are pegged to the US dollar.

What benefits or enhancements can blockchain and DLT bring to shari’a-compliant transactions?

For shari’a-compliant transactions, distributed ledger technology (DLT) is expected to reduce transaction costs, help tokenise assets and contribute to the transparency of transactions. DLT can also help to speed up the transfer of shari’a-compliant assets by mobilising funds from investors.

DLT might increase trust between trading partners, enhancing global commerce while masking sensitive information like pricing and trade secrets. DLT might increase trust and transparency by keeping customers aware of every trading stage. DLT-enabled trade networks may reduce logistical and operational inefficiencies in shari’acompliant transactions. Long-term DLT implications in trade finance might lead the way.

How can digitisation unlock the growth of Islamic banking and finance?

Digitisation is helping banks to reduce operating expenses by streamlining and automating internal processes, as well as cutting the costs of acquiring and serving customers. Global rating agency Moody expects digitisation to accelerate among Islamic banks, helping these banks expand at a lower cost. Another benefit of digitisation, particularly for banks with a small physical presence, is improved access to the public, which can also help to boost revenue.