Sharia-compliant bonds are set to be included in JPMorgan’s emerging market bond index for the first time, a move which should boost liquidity and bring down spreads in debt markets in the Muslim world, according to Citi.
The bonds, known as sukuk, comply with Islamic prohibitions on usury. Its main issuers are governments and corporates in Turkey, the Middle East and East Asia.
JPMorgan is set to include eight dollar-denominated sukuk in its EMBI Global Diversified index from the end of October – a move which could prove particularly beneficial for Indonesia which accounts for 20 per cent of the issuer market, said Donato Guarino at Citi.
“Index eligibility could mitigate some of the liquidity concerns and as such we expect Indonesian spreads to benefit the most”, said Mr Guarino.
“Anecdotally, we have heard that real money interest and participation has already picked up ahead of index inclusion.”
As it stands, sukuk from outside the Middle East trades with a 13 basis point spread above conventional paper, and at 20 basis points for that from the MENA region.
Should the eligibility around sukuk inclusion in the JPMorgan index be widened next year, expect spreads to narrow, add Citi:
In time, the sukuk bonds should trade flat to conventional bonds, resulting in 15-20 bps of spread compression from current levels. Outside of Asia, spread differential between sukuk and conventional bonds in Turkey should also benefit from similar dynamics.
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