Read more: What do you need to know?

The second reason is Islamic legal compliance. Islamic commercial law declares trading in debt unlawful. Although there is a range of opinion on what proportion of a given sukuk’s assets must be tangible property, there is little doubt at the current state of play that “asset light” sukuk cannot be traded in secondary markets — certainly this remains the case if the claims of the industry to shari‘a compliance are to remain broadly credible. However this particular demand of Islamic law, even as it continues to be central and largely settled doctrine, has become less important over the last decade because the global sukuk market has increasingly narrowed to encompass only those nominate shari‘a compliant contracts that are predicated upon non-financial assets — most prominently the ijara (or lease and buy/leaseback arrangements, involving real property) rather than in pure contractual debts. The insistence on a basis in non-financial assets and the real economy may be depicted as a brake upon the growth of sukuk. However it may equally (and perhaps more persuasively) be interpreted as a special selling point of this instrument and the wider industry of which it is a part, as well as a source of stability and durability in an uncertain, fragmented and rapidly changing financial world.

  1. Would further standardisation enhance the attractiveness of sukuk to investors and issuers?

As alluded to in the answer to question 1, in relation to the nominate Islamic contract types at the heart of transaction documents for sukuk, a narrowing and therefore a standardisation of sukuk has already taken place; this has continued to a point where it is unlikely a second disruption like that experienced in 2007 (when a leading shari‘a scholar stated the majority of existing sukuk were not compliant with shari‘a) will recur. This is justifiably of some comfort to industry practitioners and participants. Although the structured and bespoke features of most sukuk may incrementally reduce their appeal to issuers/obligors (due to higher structuring and compliance costs, and more time to market), the notable reliance upon ijara sukuk partially counteracts this characteristic; the ijara sukuk is attractive to investors due to the Islamic legality of a repurchase undertaking which (depending upon specific structural features and the legal characterisation of the transaction) may give them a proprietary interest (legal or beneficial) in sukuk assets, thereby protecting their position in case of default or the insolvency of a sukuk issuing SPV (Special Purpose Vehicle).

It is not likely that further standardisation at the level of the nominate contract of sukuk is necessary for the sukuk to remain viable and to attract the attention of issuers and investors alike. However that does not mean that further standardisation is not possible. Further standardisation is rendered possible with the recognition of a second trend towards standardisation: the harmonisation and increasing familiarity of the transaction documents that give shape and form to sukuk. This more subtle trend is frequently underestimated or overlooked altogether. Based on research completed in connection with the writing and publication of The Law of Sukuk, it is apparent that the moment is ripe for precedents and legal forms of sukuk to be replicated at a cost reduced by economies of scale. It is now not necessary to re-invent the wheel every time a sovereign or corporate opts to consider or to raise funds by means of a sukuk. There is a remarkable convergence in the drafting and substance of, for example, the London Stock Exchange listed sukuk to date, especially over the last few years. What can increase, and also increase the attractiveness of sukuk to obligors and investors alike, is an awareness that this convergence has taken place. From the standpoint of transactional lawyers drafting and reviewing sukuk documentation, a complex set of tasks has become much more straightforward and less time consuming by virtue of this specifically documentary standardisation.

  1. In addition to sukuk what other types of shari‘a compliant securities and funds are in the works?

Whilst sukuk command the greatest name recognition and are arguably the highest profile of the shari‘a compliant class of securities, sukuk are not alone. The dominant tendency of sukuk to be offered to large and often institutional investors is not inevitable. There is no obstacle to offering funds of sukuk, just as there are mutual funds of (for example) shari‘a compliant company shares. Screening of equities and funds is an established practice and promises to attract still greater crossover between Muslim and ethical investors of any (or no) religious inclination. In keeping with the development of Exchange Traded Funds, these are available on, for instance, the London Stock Exchange. As is well known there are emerging and some settled methodologies on how porous a screen can be if it is to remain shari‘a compliant. Other financial products have been tried and may ultimately gain acceptance but have not done so yet, such as hedge funds where derivatives or margin trading are deployed; the reason for continuing difficulty relates to concerns about shari‘a compliance. Modern Islamic law has come to recognise the limited company (not known in the classical age of Islam) and the trust and with it beneficial ownership, reflecting the agility and receptivity of Islamic legal scholars when innovation helps achieve the higher purposes of Islamic law. However jurisprudential questions remain about the traditional condition precedent to a contract of sale, namely ownership — and this has hampered the development of an Islamic derivatives market and naked short selling.

  1. What is the impact of sukuk on Islamic financial institutions including retail banks, and vice versa?

At an early stage of the growth of the retail industry sukuk represented a workaround to inter-bank and central bank borrowing, and sukuk represented an essential tool for the survival of Islamic financial institutions. The continuing value and utility of sukuk for investment and commercial banks, both wholly Islamic and partly Islamic (via windows), is apparent. The value added by sukuk for the retail financial services sector has been more gradual to accumulate and will for further progress depend upon the issuance of sukuk at rates and tenors attractive to consumers and in forms viable as one element in the diversification of their portfolios. As suggested by the answer to question 3 the gateway to enhanced profitability and growth of the Islamic banking sector here in the United Kingdom and in emerging markets is as it were a mental gateway, one demanding some ingenuity from legal and banking professionals who must develop afresh or marginally but meaningfully amend products and instruments such as sukuk — which remain at this stage the domain of institutional and commercial parties rather than consumers. Such innovation accords well with one of the originally stated justifications for the government to facilitate Islamic banking and finance (which it should be remembered began with Islamic mortgages, particularly aimed at the family home; and retail staples such as current and investment accounts for consumers): the aims of social inclusion together with the increased prominence and enhanced prestige of the City of London in global Islamic financial markets.

  1. How is the global sukuk market and in particular how are energy markets likely to interact with other variables to affect new sukuk issuances and listings in the UK?

Oil and gas markets have in some small measure recovered from recent, historic lows. However they are unlikely to return to previous levels in the foreseeable future. Whatever the future price movements, the impact of energy markets on sukuk is important to analyse. If, as some observers maintain, there is a correlation between energy prices and sukuk financing, it is an imperfect correlation. The reductions in sukuk volumes across the major issuing regions and exchanges (as well as over the counter) have not matched that observed in the energy markets. There have also been debut sovereign sukuk in some countries with significant stakes in Islamic finance, including Pakistan, Indonesia and Malaysia. Saudi Aramco is expected to issue a $2 billion sukuk this year, following an issue worth $17.5 billion in 2016. The London Stock Exchange has sought, and continues to add, listings of sukuk. The post-Brexit policy and regulatory landscape is likely to remove rather than to add obstacles on the path to an increase in the issuances and volumes of sukuk, both corporate and sovereign.

  1. How do you think Brexit will affect the London Sukuk market?

As a creature of high finance the sukuk took pride of place in the raft of reforms undertaken by Parliament and the regulatory authorities empowered by it to reform secondary legislation and taxation so as to render Islamic banking and finance viable in this jurisdiction. Whilst Brexit and the likely consolidation of the conventional banking sector as a result of (among other factors) the probable loss of passporting rights into the European Union (the EU 27 in the interim period, pre-Brexit) creates opportunities and an open space which Islamic retail institutions could use to their advantage, it is still more likely that a favourable impact will be felt in the London sukuk market. It is unlikely that the estimable advantages of the City of London and the existing technical, legal and regulatory supports available here will be undercut for global and domestic Islamic finance as a result of Brexit negotiations and the ultimate departure of the United Kingdom from the European Union, whatever sectoral or comprehensive trade deals and terms may or may not be concluded.

From a policy standpoint and considering the preparations the government has begun to make in and with the Arab Gulf and Commonwealth countries (a number of which host Muslim majorities, and sometimes large, relatively youthful Muslim populations — as well as emergent Islamic business sectors), it is clear that the benefits of floating sukuk here in Britain are unlikely to decrease. On the contrary it is likely that they will be subjected to lighter touch regulation and to more favourable treatment than they have been in the past. Making allowances for the pervasive uncertainty and the volatility born of both politics and macro-economic transformations, Brexit is more favourable than it is adverse for the development of more active trading and perhaps larger, more frequent issuances of sukuk in the London market.

Scott Morrison

10 May 2017

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