Doha: The sukuk market will see a significant reduction in issuance volumes in 2020. The drop in oil prices and restrictions related to the COVID-19 pandemic will take a toll on important sectors in core Islamic finance countries, including in real estate, hospitality, and consumer-related businesses, S&P Global Ratings noted yesterday
The rating agency believes that government measures will result in lower issuance from both corporate entities and central banks. In addition, most government issuers may turn to conventional bond markets rather than issue sukuk as they grapple with the impact of weaker economic environment on their budgets.
A market recovery is likely from the third quarter, but S&P doesnt think issuance in the rest of 2020 will be sufficient to compensate for the first-half decline.
Sukuk issuance volumes fell 32 percent in the first quarter of this year and we expect the decrease to be even steeper in the second quarter, since most core Islamic finance countries started implementing measures related to COVID-19 in March. Overall, S&P forecasts around $100bn of sukuk issuance this year, about 40 percent lower than in 2019. In the current environment, the number of defaults among sukuk issuers with low credit quality will likely increase. S&P Global Ratings acknowledges a high degree of uncertainty about the rate of spread and peak of the coronavirus outbreak.
In response to low oil prices and sluggish economic activity, several countries have implemented measures to unlock banking sector liquidity and help corporations cope with the adverse impact. This means corporates will have a lower need to enter the sukuk market this year, even assumingan economic upswing from the third quarter.
“We think most of their financing will come from the local banking systems, which have received incentives to provide funding from their respective governments or regulators. Most of the sukuk issuance happens locally. With higher local liquidity, people will turn to the banking system instead of sukuk issuance,” S&P analysts noted”.
The overall volume of issuance in local currency accounted for three-quarters of total issuance in 2019. There is an increase in the share of foreign currency issuance in the first quarter, however.
Market conditions have become very volatile. The past few months witnessed large outflows of capital from some emerging economies . “We therefore think sukuk issuers will probably wait for the best window of opportunity to tap the market in 2020 if they have noother alternative. This would require the containment of COVID-19 and the restart of economicengines in core Islamic finance countries,” the rating agency said.
The momentum in using blockchain for sukuk and issuing green sukuk will likely slow this year. These two areas are expected to play a significant role in opening up the sukuk market. However, the current economic shock and volatility in capital markets mean that issuers will probably no longer view them as a priority.
S&P believes that, once the dust settles, green sukuk and issuance of sukuk using blockchain technology will be two major accelerators for the industry. The rating agency is also of the view that the current health crisis could act as a catalyst for the issuance of social sukuk or a new breed of instruments, for example, one on which the rate of return would decline if the issuer fulfills certain social objectives, such as supporting the healthcare system or helping companies affected by COVID-19 so they don’t need to lay off staff.
