The lure of Islamic bonds appears to be wearing off for conventional borrowers in the Gulf, even as the global industry grows, with high-profile defaults and rising costs souring their appeal. On a global scale, Malaysia continues to dominate the Islamic finance market, which is based on financial principles from the Koran, and has led Sukuk issues so far this year. A Reuters poll in July estimates global Sukuk sales at $23-25 billion, similar to 2009, but down from earlier estimates. “Dealing with Sukuk defaults, standardizing Shariah interpretation, and increasing Sukuk liquidity, we believe, are at the root of issues that could curb future growth,” said Mohamed Damak, analyst for Standard & Poors in a recent report. “It is the solutions to these issues - likely in our view to be neither easy nor quick - that we believe will shape the direction the market takes.” In the Middle East, Dubai has sought to establish itself as a global rival to Kuala Lumpur for the estimated and growing $1 trillion of Islamic finance business. After a lackluster start to bond issuances from the region, hit from November by Dubai's debt crisis and global credit market volatility, international bond sales from the region have begun to pick up again, with sovereign, quasi-sovereign and corporate issuance. According to SDC, a Thomson Reuters database, the Middle East has issued 15 international bonds for a total of $15.2 billion so far this year, $5.5 billion of it in July alone. But in that time only Saudi real estate firm Dar Al Arkan has issued an international Sukuk. No conventional borrowers have sold Sukuk this year, and those in the pipeline, such as that of Qatar Islamic Bank, have not been able to come to market. “There are likely to be various reasons for borrowers having held back from issuing sukuk, such as debates over sukuk structures, documentation issues,” said Chavan Bhogaita, head of credit research at National Bank of Abu Dhabi (NBAD). Islamic finance had been seen as a hot market in the region, and foreign investors saw sukuk as a way to tap into abundant liquidity in the Middle East. International demand was high, particularly from European and US hedge funds, for perceived high-quality issues, such as the Dubai government's $2.5 billion Sukuk sale in October. But the near-default in December of the dollar-denominated Sukuk from Dubai property developer Nakheel sounded alarm bells. Kuwait's International Investment Group has defaulted on two Sukuk payments this year, and The Investment Dar, which owns half of British carmaker Aston Martin, defaulted on a Sukuk in May last year. The effect did not only damage the reputation of the industry but also called for a stronger focus on structuring, costs, compliance, and the legal ramifications of default Volatile equity markets and low interest rates on deposits in recent years are drawing investors in Saudi Arabia toward bonds.
