Wednesday, September 3, 2008

Growing Your Income With Sukuk

In the current environment of global economic uncertainties amidst the U.S. subprime mortgage crisis and elevated inflationary pressures, investors with a conservative risk-reward temperament may wish to settle for more stable, albeit lower returns on their investments. Investing in sukuk and Islamic money market instruments provides investors with a steady stream of income along with the opportunity to take advantage of current attractive fixed-income yields for the medium to long-term period.

Sukuk is a document or certificate evidencing an undivided pro rata ownership of an underlying asset; a capital market financial instrument tradable in the secondary market.

Benefits of Investing in the sukuk market
Rising demand and a growing number of sukuk issuers have resulted in the rapid growth of the Malaysian sukuk market in recent years. This has provided higher liquidity which allows investors easier access to the sukuk market. The primary sukuk market in Malaysia is one of the world’s fastest growing, with an average annual growth of 22%1 per annum recorded in the period between 2001 and 2007.
Sukuk are required under Shariah requirements to be backed by assets supported by underlying cashflows. This provides additional security to the investor and hence, making sukuk relatively safer than conventional bonds that may not have this feature.

Investing in sukuk offers better security to investors’ investment portfolios. Generally, investors should diversify their investment portfolios with a mix of equity, bond and money market securities based on their risk profile and investment objectives. However, given current volatility in global financial markets, investing in high quality sukuk can help reduce the overall risk in an investor’s investment portfolio as sukuk are able to yield stable profit rates throughout their tenures.

Following the government’s cut in petrol and diesel subsidies on 5 June 2008, the domestic inflation rate is expected to accelerate in the second half of 2008, resulting in a projected inflation rate of 5.5%-6.0% for 2008 versus 2.0% for 2007.

Higher expectations of inflation have caused bond market yields to trend higher. The current environment of higher bond market yields presents opportunities for investors to lock-in and earn higher yields on their investments. Furthermore, should inflationary expectations stabilise in 2009, bond yields may decline. Thus, investors may benefit from capital appreciation on their fixed-income investments as bond yields move in opposite direction to bond prices.

The yields on the 3 and 10-year Government Investment Issues (GII) have risen by 30 and 70 basis points to 4.03% and 4.90% respectively for the year-to-date as at 8 August 2008 while 3 and 10-year AAA corporate sukuk yields have risen by 80 and 97 basis points to 4.97% and 5.94% respectively over the same period.

Growth Prospects of the sukuk Market

As the pioneer in the global sukuk market, Malaysia boasts many “world-first” issues in sizeable amounts and innovative structures. Malaysia offers the world’s largest sukuk market with a total issuance size of RM121.3 billion2 in 2007, accounting for more than half3 of the global sukuk market. Rapid growth of the sukuk market has contributed to the growth of the Malaysian Islamic capital market, bringing it up to par with the conventional capital market. Given Malaysia’s leadership and dominance in the development of the Islamic capital market, the sukuk market is envisaged to continue to grow in the years ahead.

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