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Sukuk issuance remains weak despite oil drop

Despite a significant drop in oil prices since mid-2014, total sukuk issuance didn't pick up in 2015 or during the first half of 2016, as was predicted by several market commentators. In fact, issuance actually dropped in the first half of 2016 by 12.5 percent from a year ago, S&P Global Ratings noted yesterday.

"We assume sukuk issuance will remain subdued, with total issuance of $50bn-$55bn in 2016.The complexity of sukuk issuance, uncertainty regarding US Federal Reserves' policy revisions, and government efforts to reduce financing needs in response to weak oil prices have and will continue to weigh on sukuk market activity", the ratings agency said in its report "Why low oil prices aren't sending sukuk issuance skyward".

The S&P Global Ratings expects oil prices will remain substantially below peak levels and stabilise at $50 per barrel by 2018 and beyond. When prices began to fall, several market commentators predicted a boom in sukuk issuance in 2015 and thereafter, arguing that governments in oil-exporting countries would tap the sukuk market to attract funding and maintain their current and capital spending. However, as anticipated, the predicted windfall didn't materialize, with total issuance actually dropping compared with the last year. The ratings agency continues to believe that sukuk issuance will remain muted over the next 6-18 months for several reasons.

"In our view, issuance in the second half of 2016 will continue to depend on monetary policy developments and volatility in developed markets as well as the policy actions of sovereigns in core markets- namely GCC countries and Malaysia--in response to lower oil prices. While governments affected by the price drop are looking to spending cuts, taxation, and the privatization of state companies to adjust to the new reality, their financing needs remain significant. Part of these needs will be met by conventional debt markets and, to a much lesser extent, the sukuk market, with the complexity of sukuk issuance remaining a key deterrent to tapping the market.

In response to sinking oil prices, GCC Governments are introducing a mix of spending cuts and revenue-boosting initiatives to reduce their fiscal deficits and the speed of external asset burning. The reduction of energy subsidies, revaluation and reprioritisation of current and capital spending, discontinuation of projects are among the strategies used by some GCC countries to adjust to the new oil price norm. Additional measures such as tax introduction or partial privatization of state companies are in the pipe.

"The exact deficit financing mix in our assumptions differs by sovereign, but on average, we expect GCC countries to finance their deficits using a mix of their assets and conventional debt/sukuk issuance. We also think that sovereigns will rely more heavily on conventional issuance," the ratings agency.

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