Relative value in global sukuk

Published Date: 08 August 2019

In a much anticipated move, the US Federal Reserve cut the target interest rate by 25bps to be between the 2.00% - 2.25% range last month, cut IOER (interest on excess reserve) by 25bps to 2.10% and opted to end its balance sheet runoff effective beginning of August, rather than the end of September this year as originally planned. However, the sentiment ensuing from the post FOMC press conference was perceived to be less dovish than what the market had priced-in earlier which caused UST yield curve to rise after the rate cut. Yields on 2yr, 5yr, 10yr and 30yr USTs closed the month of July at 1.87% (+12bps, m/m), 1.83% (+6bps), 2.01% (+1bp) and 2.52% (unchg, m/m) respectively.

In terms of credit spreads, despite the rising uncertainty on the trade front and falling global economic growth, credit spreads on EM bonds reduced in response to material increase in bids as investors hunt for yield drove capital from DM assets to EM assets. Average option adjusted credit spread on EM USD denominated bonds reduced 12bps during the month to 278bps.

Against this backdrop, USD denominated sukuk portfolios had a constructive month. Total return on the Emirates NBD Markit iBoxx USD Sukuk index in July was a gain of 1.23% of which 0.88% came from capital gains and the remainder from coupon collection. In the year to July end, total return on the index crossed the 8.15% mark.

Two new sukuk got added to the index as at the month end rebalancing. The Baa1 rated, 10yr tenured sukuk issued by the Dubai based DP World and the 5yr tenured Baa3 rated sukuk from Emirates Strategic Investment Co. Currently the index has 107 securities amounting to USD 101.8bn with the average credit rating at A-.

Based purely on trading yields as at the end of July, following relative value observations are made:

In the sovereign sector :

The DUGB curve is trading cheaper than the INDOIS curve across all tenures despite similar credit quality.
B rated PKSTAN 21s trading at 4.73% appear expensive compared with BB rated TURKSK 21s trading at yield of 4.81%.
OMANGS 24s with yield at 4.64% appear cheap compared with BHRAIN 24s at yield of 4.11%, particularly since credit rating on Oman is nearly three notches higher at BB compared with B on Bahrain. Similarly OMANGS 25s at yield of 5.19% are trading cheaper than BHRAIN 25s at 4.24% yield.
With yield at 3.27%, BBB rated INDOIS 26s are trading cheaper than similar rated SHARSK 26s at yield of 3.16%.
RAKS 25s at yield of 3.07% appear cheaper than similar rated MALAYS 25s at yield of 2.59%.