Islamic securitization is becoming more of a buzzword as an increasing number of industry players head out to the Middle East to set up shop (ASR, 05/01/06). This year’s 10th annual Information Management Network Barcelona global ABS summit will showcase a session on the Islamic market aimed at tapping a broader audience of securitization professionals and at bringing more clarity to Shariah compliance.
The growth potential is enormous as shown by the slew of firms either heading out to set up shop or beefing up their presence in the region. “Only a handful of international banks had a presence but now a huge number of first banks and now investment banks are moving into the field,” said Michael McMillen, a partner at Dechert LLP and session facilitator for a panel on Islamic financing at next week’s conference.
Furthermore, there has been so much interest in this area of the world that the Islamic Financial Services Board has started to focus on the legal infrastructure necessary for the development of capital markets within the region paying particular attention to secondary market trading. “And securitization is really the backbone of this market,” said McMillen.
Real estate focus
Securitization activity in the area will focus on investment areas that are predominately real estate based. Shariah compliant real estate investments used to be limited to Shariah compliant business because the tenants had to ultimately comply with this law. These investments then eventually moved into commercial properties and were usually limited to single-tenant lease transactions, making it easier to determine whether the tenant was Shariah compliant or not. The law, at that point, did not account for nuances such as the possibility of having a business within a property that was not compliant next to a tenant that was, although these rules now accommodate such multitenant and mixed-use situations.
These regulations have evolved as the industry has grown. Abradat Kamalpour, also a partner at Dechert and a participant at next week’s Islamic finance panel, said that, in August 2002, the markets saw the first international Islamic bond or Sukuk deal that incorporated some of the same concepts as securitization. The initial deals were all government issues that had some sort of sovereign credit involved. Kamalpour said that Sukuk financing has developed enough to include different forms of Islamic financing techniques. The next step is securitization of Islamic financing pools that tap Islamic funds with the issue of Sukuk. Kamalpour said that experts estimate around $500 billion of investment potential has been identified in the MENA region that could create some real opportunities for securitization.
As far as near-term issuing potential goes, Saudi Arabia is looking into entering securitization financing and, in addition to Bahrain and Dubai, Jordan is also looking to develop a financial center of its own and has expressed the need to diversify away from oil and begin bringing money back into the Middle East.
The market out there
On the buyside, the Dechert duo said that buyers are maybe more knowledgeable than some of the prospective issuers. Some rated sovereign Sukuk deals in the past have been rumored to be bought by at least 60% non Shariah investors. Most of these investments by Islamic investors have been done with a buy and hold strategy not intended for secondary trading. “True asset securitizations are the next development in order to allow businesses to take assets off their balance sheets in order to generate immediate cash for reinvestment; these would be true securitizations as known in Europe and the U.S,” McMillen said.
At Dechert, the main push behind its Islamic securitization efforts has come primarily from the firm’s investor clients. McMillen said that the Barcelona conference is a forum to bridge the gap between the changing Middle Eastern capital markets and conventional securitization market players. The firm also plans to publish a chapter on Islamic financing in a book on European CMBS, which will debut at the Commercial Mortgage Securities Association European conference in November this year.
But despite the general optimism, Kamalpour said that developing this segment of the market is not without its challenges. At the moment, it is extremely difficult to get an independent legal opinion from some of the Middle Eastern jurisdictions for potential securitization structures. This presents a challenge for rating these deals. Dechert is actively involved with Standard & Poor’s in developing a ratings criteria for these capital market products and McMillen believes that Fitch Ratings and Moody’s Investors Service are also looking into this. As a result, he suspects that the first securitization structures will be done by U.S./European banks that have Shariah compliant assets but are also able to get a legal opinion and issue a rated product in these markets.
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