2003 uptrend for Islamic bonds


By K.P. LEE

AS the equity markets continue to take a beating in the uncertain global geopolitical climate, economists are more bullish on the growth prospects of the bond markets, particularly Islamic private debt securities (PDS), this year.  

The lacklustre performance of the KLSE may be driving some investors away from the equity markets but companies too are increasingly turning to the bond markets as a major source of their funding. 

“Overall we remain bullish on the growth of the bond market in the medium term. As it is an efficient form of borrowing for companies with high credit standing, we will continue to see a shift in companies sourcing funds through the bond market as against the traditional bank-loan market,” said HSBC Bank Malaysia Bhd Associate Director (Fixed Income Research) Devendran Mahendran.  

“We are likely to see an increase in asset backed securities and Islamic instruments.” 

Devendran expects the growth rates for the bond market to be moderate this year and foresees significant bond issues particularly for infrastructure development. He said the growth of the market would be reflective of the pace of economic activities in the country. 

CIMB Bhd chief executive officer Nazir Razak predicted on Wednesday that the fund raising through the PDS market would grow 17% to RM40bil this year from RM32bil in 2002. In contrast, he expects funds raised through the equity market to dip two-thirds with initial public offerings falling to RM4bil this year from RM12bil in 2002. 

Indeed, this upbeat view on bonds appears to be in line with the growth of the Malaysian bond market in recent years which has more than doubled in size in the five years since the 1997 Asian financial crisis.  

Amongst bonds, the size of the PDS market, which was smaller than that of Malaysian Government Securities (MGS) in 1997, now far exceeds MGS in size and variety.  

At end of 2001, the size of the fast growing PDS market, which registered a compounded annual growth rate of 30.2%, stood at RM133.6bil compared to RM103.4bil for MGS. 

With factors conducive to bond trading such as the lack of inflationary pressure and low interest rates likely to be sustained through 2003, the healthy outlook for the PDS market appears assured.  

According to Sean Liu, head of Fixed Income for Prudential Unit Trusts Bhd, bonds in general have outperformed stocks for the third consecutive year in 2002 primarily due to the low interest rate environment.  

He said that with no inflationary pressure bond prices would likely find continued support in 2003. 

It is not all smooth sailing however for the Malaysian PDS market. Many analysts complain that there is inadequate liquidity in the market and this has repercussions on its efficiency as a place for capital raising and attractiveness to potential investors.  

“The Malaysian bond market is still in its infancy stage in terms of development,” said Liu when asked by StarBiz to comment on the Malaysian market’s liquidity.  

“Notwithstanding that, liquidity on PDS in the secondary market has improved tremendously when compared to three years ago.”  

The Malaysian Capital Market Masterplan has among its objectives the development of an active secondary market.  

According to another fixed income expert, a constraint to the development of a secondary market was the absence of a centralised clearing system.  

“What we need is an increase in trading volumes and liquidity by broadening the investor base beyond the current pension funds and insurance companies and more non-passive investors such as mutual funds and unit trusts to become active in the bond markets,” he said. 

HSBC’s Devendran said currently liquidity was generally poor with mainly government, and highly-rated corporate bonds that are regularly traded. 

He added that although making the market less illiquid was crucial, this process would not be easy in practice as it involved the concerted participation of a critical number of investors, a range of bonds (in terms of tenor and quality), a good flow of information, and a sound regulatory framework. 

Devendran lauded the move by the authorities to liberalise the retirement savings of Malaysians and added that liquidity could also be improved by the adoption of a market based interest rate structure to allow comparability between the bond and bank markets.  

Among new issues of PDS, the issuance of Islamic PDS had for the first time surpassed conventional PDS in 2002.  

This development is hardly surprising as the growth of Islamic instruments have been very encouraging since the first issue in 1990.  

In 2000, the issuance of Islamic PDS accounted for 34% of total PDS, increasing to 43% in 2001 and 60% in 2002.  

Some of the largest PDS issues in 2002 such as the PLUS Expressways Bhd RM5.1bil debt in May and a further RM2.26bil in December were Al-Bai Bithaman Ajil Islamic instruments.  

Analysts expect the uptrend to continue with more companies opting for Islamic bonds in 2003. 

“It is an area that the government is keen to develop and has accordingly improved the regulatory framework to facilitate these instruments,” said Devendran, who added that the attractiveness of Islamic PDS was its flexibility to cater to both Islamic and conventional investors. 

“The current trend is for Islamic structures that are internationally shari'ah compliant similar to Malaysia's global sukuk that was issued last year.  

“Such structures have the added advantage of allowing international investors particularly from the Middle East to participate,” he said. 

Analysts agreed that in the longer term development of the market, more innovative PDS structures were required, possibly with large scale, longer term tenures and making the Malaysian bond market more effective in the allocation of financial resources.  

They also pointed out market deregulation and development of hedging techniques were also important. 

The current challenge however was more fundamental, according to Prudential’s Liu.  

“More education or awareness on bond investing amongst the investing public is badly needed,” he said.  

“Most people in Malaysia still have not capitalised or used bonds as a risk reduction tool in their investments.” 

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