The launch of the Hong Kong government's first sukuk last week is seen as paving the way for private firms to follow suit in promoting the city as a centre for Islamic finance, now a global business worth US$1.3 trillion and expected to double by 2017.
The government's US$1 billion, five-year sukuk offered on Thursday was oversubscribed 3.7 times with US$4.7 billion in orders received. It attracted a mix of mainly international institutional investors, with 36 per cent from the Middle East, 47 per cent from Asia, 6 per cent from Europe and 11 per cent from the US. The bonds will be listed in Hong Kong, Malaysia and Dubai.
Amir Ahmad, a Dubai-based partner with international law firm Pinsent Masons, said the Hong Kong government-issued sukuk was popular with Middle East investors because of its high credit rating.
"This is the first time to have a government entity with AAA credit rating issue a sukuk in US dollars," Ahmad told the South China Morning Post.
"Many Islamic investors have strong demand for high credit rating sovereign bonds which comply with the Islamic religious investment law but the supply is limited. This is why the Hong Kong government issue is popular."
He said the buyers from the Middle East are mainly institutional investors such as banks, fund managers and pension fund companies.
"The Hong Kong government issue is a milestone as the successful launch of the first Islamic bonds in Hong Kong would help encourage other companies to follow suit," Ahmad said.
"We are looking forward to seeing more Islamic bonds issued by other Hong Kong and mainland companies in future."
While other issuers may not have Hong Kong's high credit rating, he said other Islamic bonds could still attract buyers as long as they offered good pricing for investors.
Ahmad added that although Hong Kong is far from the Middle East, it still could be an ideal global Islamic finance centre due to its active market and sound banking and legal system.
A change to the tax laws last year to provide fair tax treatment for Islamic bonds and conventional bonds was an important step for the city to promote Islamic finance.
In 2007, Financial Secretary John Tsang Chun-wah announced a plan to secure part of the Islamic finance pie. However, the city had no sukuk issue until the government offering last week, largely due to the tax issue.
Taxation had been the obstacle in Hong Kong because the special structure of sukuk, which must conform to sharia law, does not allow Muslims to accept interest payments, so the bonds were structured as assets or property.
That meant they were subject to stamp duty, income tax and profit tax. Ordinary bonds pay interest, which is not taxable in Hong Kong.
"The tax law change in 2013 has allowed the sukuk to be treated as conventional bonds in terms of tax payment. This has provided a level playing field for sukuk issuance in Hong Kong," Ahmad said.
"If the Hong Kong government and other companies continue to issue Islamic products, Muslim investors will come," Ahmad said.
A banker involved in the deal said the offering showed that the city has the ability to be an Islamic finance centre.
"Hong Kong does not have many Muslim followers but if the city can attract Islamic followers to trade here, we can also be an Islamic finance centre. The government bond issue has taken the first successful step," he said.
The challenges ahead, the banker said, include whether there would be enough issuers in Hong Kong willing to deal in Islamic bonds.
"The Islamic religions have restrictions which exclude some companies from issuing sukuk, including supermarkets and retailers who sell pork or related products as well as those involved in the entertainment business," the banker said.
"Even if the companies are qualified to issue sukuk, they may prefer to issue conventional bonds which do not have any restrictions."
Ben Kwong Man-bun, a director of brokerage firm KGI Asia, said the sukuk would have difficulty attracting local retail investors.
"For many retail investors in Hong Kong, it is much easier to buy in the stock market than trade in bonds," Kwong said.
"The timing is also not good for bond offerings as interest rates could go up and this would hurt bond prices. Sukuk are not likely to attract many retail investors to trade even after they are listed on the local stock market."
(South China Morning Post / 15 September 2014)---
Alfalah Consulting - Kuala Lumpur: www.alfalahconsulting.com
Islamic Investment Malaysia: www.islamic-invest-malaysia.com