Indonesia is marketing its annual sale of dollar-denominated Islamic bonds at the lowest yield since 2012 amid optimism President-elect Joko Widodo will reduce fuel subsidies and cut red tape.
The country is offering a benchmark-sized sale of Shariah-compliant debt due in 10 years at an initial guidance of about 4.625 percent, according to a person familiar with the matter who asked not to be named as the information is private. That compares with the 6.125 percent yield the government paid on notes maturing in 5.5 years in 2013 and the record-low 3.3 percent rate on 10-year sukuk sold the previous year. A benchmark-sized offer is commonly at least $500 million.
The Constitutional Court rejected an appeal disputing the election result on Aug. 21, clearing the way for Widodo, known as Jokowi, to take power in October. Bank Indonesia has added $11.2 billion to its foreign-currency holdings this year as the rupiah rallied 3.6 percent to lead gains in Asia. That’s a far cry from 2013’s 21 percent plunge in the currency, which prompted officials to “compromise” and accept higher yields at the last dollar sukuk sale to bolster reserves.
“Indonesia can afford to offer a lower yield as the macro picture is much better,” Akbar Syarief,fund manager at PT MNC Asset Management in Jakarta, which oversees more than $200 million, said by phone today. “We think that fuel subsidies will be cut, which would be a positive. It’s only a matter of when and by how much.”
The yield on the nation’s 3.3 percent Islamic dollar notes due November 2022 dropped 32 basis points this quarter to 4.16 percent, data compiled by Bloomberg show. That compares with a 25 basis point decline to 2.85 percent for similar-maturity Malaysian sovereign sukuk. The yield on the Indonesia’s non-Islamic dollar debt due January 2024 has dropped 41 basis points this quarter to 4.12 percent.
Jokowi said he is committed to reducing fuel subsidies that account for 14 percent of the proposed 2015 budget, after President Susilo Bambang Yudhoyono rebuffed his request to revise the spending last week.
Indonesia plans to sell sovereign bonds denominated in dollars, euros and yen next year to meet a record gross debt issuance target of 459 trillion rupiah ($39 billion), Robert Pakpahan, director general at the finance ministry’s debt management office in Jakarta, said in an interview yesterday. That’s 13 percent higher than this year’s goal.
Moody’s Investors Service ranks Indonesian government notes at Baa3, its lowest investment grade. Although the country has a small public debt burden, its low gross domestic product per capita and the high proportion of its debt owned by foreigners make it susceptible to external risks, Moody’s said in an Aug. 19 statement. Fitch Ratings also assigns Indonesia its top investment grade, while Standard & Poor’s rates the nation at its top junk level.
Investor confidence in Indonesia has improved after Jokowi secured victory in the July 9 presidential election. As governor of Jakarta since 2012, he has restarted stalled transport projects, increased tax revenue by moving collection online and dismissed senior officials for poor performance.
The cost to insure the nation’s debt against non-payment using five-year credit-default swaps slid 27 basis points this quarter to 133 basis points, according to data provider CMA. That compares with Thailand’s 25 basis point drop to 86.
“The numbers are more favorable for Indonesia this year,” Priyo Santoso, chief investment officer at PT Mandiri Manajemen Investasi, which oversees more than $2 billion in assets, said in an interview in Jakarta last week. “Investors see that Indonesia’s political risk has subsided, so that’s followed by a falling risk premium on the yield.”
Indonesia’s government hired Standard Chartered Plc, HSBC Holdings Plc, CIMB Group Holdings Bhd. and Emirates NBD PJSC to arrange the sale, the debt office’s Pakpahan said in May.
The average yield on dollar-denominated sukuk fell eight basis points this quarter to 2.78 percent on Aug. 29, a Deutsche Bank AG index shows. That compares with the five basis point climb to 5.37 percent for the average yield on emerging-market sovereign debt, according to a JPMorgan Chase & Co. gauge.
Hong Kong and Luxembourg are set to follow the U.K. in selling bonds that pay returns on assets to comply with Islam’s ban on interest this year. Indonesia’s offer “reflects the growing interest in Islamic finance as a source of sovereign funding,” Khalid Howladar, global head of Islamic finance at Moody’s in Dubai, said in last month’s statement.
Financial products based on renewable energy and sustainable agriculture are emerging in Islamic finance as asset managers seek a crossover opportunity between ethical and sharia-compliant investing.
Islamic finance follows religious principles which forbid involvement in activities such as gambling, tobacco and alcohol, but the industry has only recently begun to stress themes of wider social responsibility, such as protecting the environment.
Last week, Malaysia announced guidelines for issuance of socially responsible sukuk (Islamic bonds), aimed at helping firms raise money for projects ranging from renewable energy to affordable housing.
In April the Dubai Supreme Council of Energy, a government planning body, and the World Bank signed an agreement to develop funding for the emirate's green investment programme, including "green" Islamic bonds. Dubai aims to derive 5 percent of its energy from sustainable sources and retrofit buildings to reduce energy consumption.
Meanwhile, firms in Britain, Canada and Hong Kong are offering sharia-compliant investments in sustainable farming ventures, which may attract money from Islamic investors in the Gulf and southeast Asia as well as from local investors.
The reasoning is that green investment products can tap a wider range of demand if they are made sharia-compliant to appeal to Muslims. At the same time, non-Muslims who might normally shy away from Islamic investments - because of concerns about pricing, complexity and lack of familiarity - may embrace them if they are green.
It is not yet clear how much success these efforts will have. In past years, Islamic mutual funds made forays into the market for socially responsible investments, but those efforts have struggled, partly because of limited distribution channels.
Fund houses from the Gulf and southeast Asia sought to distribute some of their Islamic funds to European investors using UCITS, a "common passport" for investment products, but they have had only mixed success, and a high-volume business has not developed.
The new crossover products are not mutual funds but instruments tailored specifically to invest in a certain type of asset in a specific country or region. They combine Islamic screens - lists of criteria for sharia compliance - with other practices required by sustainable investment firms.
In June, Ontario-based AGInvest Properties developed a sharia-compliant investment product providing ownership of Canadian farmland, supervised by Bahrain-based advisory firm Shariyah Review Bureau (SRB).
The venture would buy prime agricultural land which the firm would manage to ensure sustainability through soil preservation, crop rotation and selection of farm operators, said Robbie Duncan, Dubai-based vice president of AGInvest.
The company, which currently manages 70 million Canadian dollars ($64 million) worth of agricultural land, has begun marketing its sharia-compliant product to investors in the Gulf.
A Saudi firm has expressed interest in setting up a similar fund with AGInvest as adviser, said Duncan, without naming the Saudi firm.
"We have found that three main trends have promoted this agri-business: the need for a stable ethical investment, an investment which promotes and aids the betterment of a community, and the need for food security."
It is the third agriculture-based investment screened by SRB since December, said Yasser Dahlawi, SRB's chief executive.
"There are only finite amounts of agricultural resources available to the Islamic investor community," Dahlawi said.
British-based SCS Farmland is offering a sharia-compliant investment programme for Argentinian farmland, while Hong-Kong based Treedom Group is offering Islamic investors an agarwood venture.
Success for all of these ventures is by no means guaranteed, and it is too early to say whether this form of crossover investing will have more success than the Islamic mutual funds previously marketed in Europe.
One environmentally friendly, sharia-compliant investment project in Britain failed to go through earlier this year.
British-based Islamic financial advisory firm Simply Sharia planned to raise 3 million pounds ($5 million) by the end of June to build a solar energy plant, using tax relief from the government's Enterprise Investment Scheme to create a wakala funding structure.
But the project was unable to reach its funding target by the deadline, partly because as a sharia-compliant structure it could not use leverage like conventional financial products, which limited the returns that could be offered. The project was too small to be financed with sukuk.
"There was a performance differential between conventional solar EIS products (target return 1.15 pounds per pound invested) and the sharia-compliant product (target return of 1.10 pounds per pound invested)," said Anas Hassan, managing director of business finance at Simply Sharia.
"This differential was mainly due to the high level of debt in the structure of the conventional product, whereas the sharia-compliant version was a pure equity play.
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