Every cloud has a silver lining, says a famous proverb, which applies exactly to the Sukuk market; most expectations indicated a severe impact from the COVID-19 pandemic, but what happened was the opposite, whether in 2020 or 2021, where the market achieved great momentum. It is expected that the total issuances in 2021 will approach US$185 billion compared with the US$175 billion achieved in 2020 and compared with the US$145 billion in 2019 before the pandemic. However, this momentum has not been reflected significantly in the instruments issued by financial institutions and companies. In this article, we try to find out why. And then we look forward to the future with this type of Sukuk.
Review of 2021
With the expansion of the distribution of vaccines against the coronavirus and the gradual return to normal life, and with the global collaboration to address the economic consequences of the pandemic, it can be said that the recovery from the effects of the pandemic was faster than most expectations at the beginning of the pandemic.
In the global instruments market, financial needs — especially government financing needs — were central to the momentum and growth experienced in the issuance of instruments in 2020 and continued until mid-2021; the market achieved a 21% growth in issuance volume in 2020 to US$175 billion compared with US$145 billion in 2019, and the market then achieved about US$100 billion in the first half of 2021, with expectations of exceeding US$200 billion.
However, the improvement in oil prices and their continuation above the levels of US$70 per barrel were reflected in the sovereign issuance plans in the oil-producing countries, led by the Kingdom of Saudi Arabia, where the volumes of issuances began to decrease in sync with the decrease in requirements, which will be reflected in the total issuance in the second half to close the year around US$185 billion.
On the other hand, given that the momentum that occurred in the market during 2020 and 2021 was driven by meeting national financing needs, the growth in financial institutions and corporate issuances did not have the same momentum, especially in corporate Sukuk issuances, due to the following:
1) Continuing disruption of supply chains
Despite the apparent improvement at the end of 2021 at the level of international trade movement, this improvement was not sufficient at the beginning of the year; as a result, there was no need for procurement finance in many exporting countries.
2) Availability of relative liquidity because of austerity measures
In response to the consequences of the pandemic, many companies took several austerity measures, and reconsidered their spending plans. These included either expansion of existing activities or entry into new ones, due to the blurring of the landscape, which has led to a reduction in the financing needs of companies, and consequently to the postponement of their plans to go to various sources of financing, including Sukuk, of course.
3) Increasing government support
To support businesses so as not to lay off many workers and coupled with the associated social and economic impacts, several central banks launched quantitative easing programs to provide liquidity to help companies adapt and maintain the productive capacity of their economies. This new liquidity reduced the need to issue Sukuk for many companies.
4) Sovereign Sukuk crowding out corporate Sukuk
In many countries, especially the Gulf countries which depend on oil revenues as a source of government revenues, with the increasing budget deficits, these governments had to turn to more issuances of sovereign instruments as one way to bridge the financing gap, budget financing and meet the increasing needs caused by the pandemic. This has resulted in the so-called crowding-out effect of government-issued instruments for budget financing on corporate-issued instruments due to the creditworthiness of sovereign instruments versus corporate instruments, thus making it difficult for some companies to issue instruments at this time.
Preview of 2022
If oil prices continue to rise, or at least stabilize at levels above US$70 a barrel, this simply means that the approach taken for debt management of many of the oil-exporting countries will continue to reduce the volume of issuances, due to the lack of financing needs.
The Kingdom of Saudi Arabia, for example, has begun to reduce the value of its periodic monthly issuances from the beginning of the second half of 2021, and other influential countries such as Indonesia and Malaysia will often follow.
With the return of global economic recovery, as projected by the IMF in 2022, to levels above 6%; the increased Sukuk issuance of many financial institutions and companies in East Asia, the Arab Gulf States and elsewhere; and the reactivation of deferred investment spending plans by financial institutions and companies, all of these will collectively increase the demand for sources of financing and hence, increase the volume of Sukuk issuance by these players. We may therefore expect an increase in the growth rates of financial institutions and corporate Sukuk issuance in return for a relative decline in sovereign instrument issuance.
In short, the expected momentum in corporate Sukuk issuance will be associated with the relative decline in sovereign issuance, leaving room for the former in the market — this, in addition to the resurgence of economic activity, will mean that companies and institutions can finance expansions through the issuance of new Sukuk.
Dr Ahmed Hassan Al-Naggar is an economic and financial expert. He can be contacted at [email protected]