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Emerging Markets

Sukuk lull is just the quiet before the storm

Such is the quiet of the Middle East sukuk market following the Islamic holiday period that all returning investors can hear beyond the sound of fans whirring is the faint, distant rumble of Malaysian domestic issuance. Yet despite these outward signs of serenity, there is every reason to be excited about the gathering storm of deals.

It’s deathly quiet in the GCC sukuk market. While European markets have been quick to shrug off the summer lull, Middle East issuers and investors are still, seemingly, in holiday mode.

Yet there is a clear and rising frustration among those investors at their desks at not having suitable outlets to put their cash holdings to work.

Potential borrowers are sitting on a golden opportunity to capitalise on this pent-up demand. The secondary sukuk market has shaken off every piece of negative news from Europe in 2012 and, in contrast to the volatility at this time last year, prices continue to steadily rise — albeit on little actual trading. The Dow Jones Sukuk Total Return Index rose from 132.5 at the start of the year to 139 in mid-July and over 140 in August, with little fall back along the way.

Given the half to three-quarter point bid/offer spreads on most names, investors have preferred not to dip in and out of trades, but rather to take a longer view and perhaps add to positions on any market pullback. Dealers have also abstained from going short, however, having become nervous about the costs they incur whenever a bounce back forces them to cover. Another common complaint is that managers are forced to lift their offers on paper above the preferred range mid-points because the sellers’ market discourages pricing flexibility.

As a result, August was a particularly good month for fixed income asset performance in the Gulf. The average yield on GCC sukuk ended August 20bp tighter on the month at 3.18%, according to the HSBC/Nasdaq Dubai GCC US Dollar Sukuk index, but one manager claimed their positions rose, on average, over a point. Moreover the region’s growing economic confidence has encouraged strong inflows to funds from investors, adding to the cash they have already built up from redemptions this year and last. Yet fund managers are finding it hard to deploy money with the same urgency.

Against this backdrop, the re-emergence of Qatar Islamic Bank’s plan to come to market with a sukuk programme has drawn a high level of investor interest. Investors will relish the chance to diversify away from the UAE. But a deal from QIB would also benefit from the dearth of other sukuk and conventional paper. Investors point out that National Bank of Abu Dhabi received heavy demand for its recent $750m seven year conventional bond despite — or perhaps because of — choosing to come to market during Ramadan when nothing else was happening.

QIB will have to move fast to get such a clear run, however. Investors are of the firm belief that bigger banks like HSBC and Standard Chartered are racing to bring a rush of deals to market for their clients. Conditions are too good for issuers to ignore, they say. It may be quiet but not for much longer.

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