Development of Sukuk Market Oman First Islamic Finance & Banking Conference 23 rd – 24 th January 2012, Al Bustan Palace, Muscat Ijlal Ahmed Alvi Chief Executive Officer IIFM

What is International Islamic Financial Market (IIFM) ? IIFM is the international Islamic financial market’s organization focused on the Islamic Capital & Money Market (ICMM) segment of the Islamic Financial Services Industry (IFSI). Its primary focus lies in the standardization of Islamic financial products, documentation and related processes at the global level. IIFM was founded with the collective efforts of the Islamic Development Bank, Autoriti Monetari Brunei Darussalam, Bank Indonesia, Central Bank of Bahrain, Central Bank of Sudan and the Labuan Financial Services Authority (Malaysia) as a neutral and non- profit organization. Besides the founding members, IIFM is supported by its permanent member State Bank of Pakistan as well as by a number of regional and international financial institutions and other market participants as its members. The main strength of IIFM is pooling of expertise from banks, legal, accounting and other market participants who work together under the guidance of Shari’ah scholars 1

What IIFM provides to the Industry?  Addressing the standardization needs of the industry & creating awareness  Universal platform to market participants through 'Global Working Groups' for the development of Islamic Capital and Money Market  Shari’ah harmonization in documentation, products and processes 2

Documentation & Product Standardization - Why Standardize?  Reduces cost of evaluation and negotiation of documentation  Provides balance and fairness  Increases efficiency, liquidity and certainty  Benchmark to provide a reference point Example: Use of IIFM MATP documentation in SWIFT Message Standardization  Reduces the price divergence between Islamic transactions and conventional transactions 3

Documentation & Product Standardization – A Market Based Approach  Standardization of existing practices  Review of market practices  Development with Industry consultation  Shari’ah guidance & approval  Legal environment & law reform  Enforceability  Standardization through innovation  Market requirement & research  Consultation by industry experts & development  Shari’ah guidance  applicability/practicality  legal environment & law reform 4

Overview & Trends in the Global Sukuk Market SOURCE: IIFM SUKUK ISSUANCE DATABASE5 Sukuk Emergence Sukuk Ruling (The Fiqh Academy of the OIC ) Shell MDS RM125 Million Sukuk Issue (based on BBA structure) Kumpulan Guthrie $100 Million Malaysian International Sukuk Issue (Ijarah structure) Short-term Ijarah Sukuk by Central Bank of Bahrain International Sukuk Issuances in Bahrain, Pakistan, Indonesia, UAE, Germany, Qatar, Saudi Arabia Sukuk Issuance by IDB First International Sukuk issued in Indonesia Series of Indonesian Sovereign Retail Sukuk IFC Sukuk $ 100 Million GE Sukuk $ 500 Million KT Turkey Sukuk Limited $100 Million Sukuk issuance by Japanese corporate > PLUS Expressway Berhad, Malaysia $ 9.7 Billion Sukuk Saudi Arabian Civil Aviation Authority $ 7.2 Billion Sukuk Khazanah Nasional’s offshore denominated Sukuk (Chinese Yuan) Qatar Central Bank’s $ 9 Billion Domestic Ijarah Sukuk Malaysia Global Wakalah Sukuk $2 Billion International Sukuk Issuances Bahrain -$750 M ADIB– $500 M HSBC - $500 M ADCB - $500 M 2011 >

Overview & Trends in the Global Sukuk Market SOURCE: IIFM SUKUK ISSUANCE DATABASE Grand Total Domestic ,7305,6378,76717,91935,02816,45718,27743,39267,679218,875 International4251,1301,6802,5033,41312,11513,8592,1407,0002,67910,24457,189 Grand Total (US $ Millions)1,1721,3716,4108,14012,18030,03448,88718,59725,27746,07177,923276,064

Overview & Trends in the Global Sukuk Market SOURCE: IIFM SUKUK ISSUANCE DATABASE7 Country-wise Breakdown of Total Global Sukuk Issuance by Volume Sovereign, Quasi Sovereign & Corporate Issues – All Currencies (Jan 2001 – Dec 2011) CountryNumber of IssuesVolume (US $ Million)% of Total Value Malaysia , % UAE4332, % Saudi Arabia2517, % Sudan2313, % Qatar711, % Bahrain23410, % Indonesia756, % Pakistan394, % Cayman Islands62, % Kuwait112, % Jersey21, % Brunei Darussalam211, % USA % Turkey % UK % Singapore % Germany % Jordan % Japan % Gambia % Iran % Yemen % Grand Total ,064100%

Overview & Trends in the Global Sukuk Market 8 Breakdown of Total Global Sukuk Issuance by Issuer Status Sovereign, Quasi Sovereign & Corporate Issues by Volume – All Currencies (Jan 2001 – Dec 2011) SOURCE: IIFM SUKUK ISSUANCE DATABASE

Overview & Trends in the Global Sukuk Market 9 Structural Breakdown of Domestic Sukuk Issuance (% by Volume) Sovereign, Quasi Sovereign & Corporate Issues – All Currencies (Jan 2001 – Dec 2011) SOURCE: IIFM SUKUK ISSUANCE DATABASE

Overview & Trends in the Global Sukuk Market 10 Structural Breakdown of International Sukuk Issuance (% by Volume) Sovereign, Quasi Sovereign & Corporate Issues – All Currencies (Jan 2001 – Dec 2011) SOURCE: IIFM SUKUK ISSUANCE DATABASE

Overview & Trends in the Global Sukuk Market Structural Developments International Corporate Sukuk Issues  2001 – 2005  Ijarah (Dominant structure)  2005 – 2008  Musharaka, Mudaraba, Exchangeable, Convertible  2008 – 2010  Ijarah, Murabaha and Wakalah  2010 – 2011  Wakalah Bel Istithmar, Hybrid Structures 11 SOURCE: IIFM SUKUK ISSUANCE DATABASE

Overview & Trends in the Global Sukuk Market Sukuk Trends – Impact Due To Downturn International Sukuk Issuance  $ 13.8 billion  $ 2.15 billion  $ 7.5 billion  $ 2.7 billion  $ 10.3 billion 12 SOURCE: IIFM SUKUK ISSUANCE DATABASE

Overview & Trends in the Global Sukuk Market Developments in Sukuk Market (Post Crisis)  Call back of a portion of Sukuk  Dubai Islamic Bank $200million - Cash tender 88% of face value  Sukuk Issuance based on Reverse Enquiry  Monetary Authority of Singapore  Domestic Retail Sukuk Issuance  Indonesia  Islamic Government Investment Securities Issuances  State Bank of Pakistan  Investment Sukuk Issuance  Islamic Development Bank  Fixed Rate of Profit Issuances  Bahrain, Indonesia and IFC Sukuk  Issuance in International Jurisdictions & Other Currencies  National Bank of Abu Dhabi’s RM 500 million Sukuk & Khazanah Nasional’s SGD 1.5 billion Sukuk 13

Overview & Trends in the Global Sukuk Market Sukuk Defaults and Restructuring – Lessons from Corporate Issuance  Investment Dar (Kuwait)  East Cameron (US)  Golden Belt (Saudi Arabia)  Tabreed (UAE) $463 Million  IIG (Kuwait)  Tamweel (UAE) 14

Overview & Trends in the Global Sukuk Market Asset Based vs Asset Backed  Are Sukuk holders investment pari pasu with other secured or unsecured creditors?  Do Sukuk holders have title transfer?  In case of Real Estate, is property freehold? 15

 To encourage and increase market share of Asset Backed Sukuk through standardization  Development of the Concept Paper to establish market requirements 16 Sukuk Standardization

Hedging Requirements in Sukuk  Islamic Banks retail portfolio mostly consist of fixed profit rate assets on a Murabaha basis while liabilities to corporate customers are on floating rate benchmarks Rate of Return mismatch in Assets & Liabilities require protection against steep rise or fall in reference rates of return  Islamic Banks’ foreign currency exposures such as deposits, import & export L/C’s, Sukuk etc., The foreign currency exposures need to be managed to avoid loss due to volatility in the international currency markets 17

Sukuk - Rate of Return Hedging 18 SOURCE: IIFM SUKUK ISSUANCE DATABASE Issue DateIssuer Issuing Currency Amount (USD Millions) Issue Type Rate of Return per annum 10 Jan 2012Saudi Arabian Civil Aviation AuthoritySAR Sovereign2.50 % 24 Nov 2011Abu Dhabi Islamic BankUSD500.00Corporate3.78 % 22 Nov 2011Government of BahrainUSD750.00Sovereign6.27 % 06 July 2011Government of MalaysiaUSD800.00Sovereign4.65 % 06 July 2011Government of MalaysiaUSD Sovereign2.99 % 31 Oct 2010Abu Dhabi Islamic Bank, UAEUSD750.00Corporate3.75 % 25 Oct 2010Islamic Development BankUSD500.00Quasi-Sovereign3.55 % 05 Oct 2010Qatar Islamic BankUSD750.00Corporate3.86 % 01 Sep 2010Celcom Transmission Berhad, MalaysiaRM572.00Corporate5.50 % 10 Feb 2010Government of IndonesiaIDR862.00Sovereign8.70 % 07 Jan 2010Dar Al Arkan, Saudi ArabiaUSD450.00Corporate10.75% 27 Nov 2009General Electric USUSD500.00Corporate3.4% 24 Sep 2009Government of BahrainBHD437.80Sovereign3.75 % 09 June 2009Government of BahrainUSD750.00Sovereign6.25 % 14 May 2009Government of MalaysiaRM Sovereign5.00 % 23 April 2009Government of IndonesiaUSD650.00Sovereign8.8 % 16 March 2009Panerbangan Malaysia Berhad, MalaysiaRM405.80Quasi-Sovereign3.85 % 25 Feb 2009Government of IndonesiaIDR464.50Sovereign12.00 % 13 Sep 2007Government of MalaysiaRM Sovereign3.58 % 05 June 2007Silterra Malaysia Sdn. Berhad, MalaysiaRM529.00Corporate3.90 % 12 March 2007Rantau Abang Capital Berhad, MalaysiaRM606.06Corporate4.10 % 29 Sep 2006Khazanah Nasional Berhad, MalaysiaUSD750.00Corporate5.07 % 02 June 2006Aaber Petroleum Investment Company, UAEUSD460.00Corporate6.89 % 11 June 2005Islamic Development BankUSD500.00Quasi-Sovereign3.74 %

Sukuk - Rate of Return Hedging Dar Al-Arkan – Sukuk Issuance & Profit Swap Facts Dar Al Arkan US$ 450 million Sukuk Largest Saudi Real Estate Developer Fixed Profit Rate of 10.75% p.a. Tenor 5 years (Feb 2010 to Feb 2015) US$ 225 million Profit Swap (fixed to floating) Cost saving of 280 bp (3 month floating rate 7.95%) Source: 19

Collateralization & Sukuk  IIFM Reference Paper on I’aadat Al Shira’a (Repo Alternative) and Collateralization published on 28 th July 2010  Purpose  The Reference Paper aims to provide general information on the concept, operational mechanism and uses of conventional repurchase agreements (known as Repo or Sale and Repurchase agreements) and explore the possibilities for I’aadat Al Shira’a (repurchase) as an alternative to Repo  The aim is to provide for the Islamic financial institutions, another tool to effectively manage its liquidity as well as to help it finance its inventory of Asset, Sukuk and equities 20

Collateralization Prospects in Islamic Finance Institutions may initiate this concept which will give similar results as those achieved by a repo. Moreover, this concept will allow Islamic financial institutions to raise cash to fund the inventory while providing the cash investor a return which is further comforted in form of collateral Further efforts are being initiated by IIFM and several bilateral trades between banks are being done to test the product 21 Collateralization & Sukuk

Collateralized Product – Utilization of Sukuk In order to make use of parties Sukuk portfolios and to initiate the process while further research and deliberation on finding an ideal ‘IS’ structure may continue, the working team is of the view that a collateralized structure is one of the options which perhaps can be initiated now given the industry’s urgent requirement for a workable liquidity management tool. The proposal is to make use of Sukuk, which are currently not utilized in a bank’s portfolio, through either a Murabaha or Wakalah arrangement. Since Murabaha is more developed and widely used, the working team is of the view that the following proposed structure may be initiated in various jurisdictions so that not only do funds remain within the Islamic system but the required legal procedures can be managed at the jurisdiction level (the suggestion is to seek required legal changes in OIC countries to facilitate the process). Sukuk collateralization through a Wakalah arrangement is another option which, if required, can be further developed by the IIFM working team if requested by the industry. 22 Collateralization & Sukuk

Issues for Consideration 1.Taking Security: For this structure to be practical, it would need to be possible to take security over the securities quickly, effectively and robustly. In addition it needs to be possible for Party A to re-hypothecate the securities over which Party B has granted security. 2.Securities used as security for the obligation to pay Deferred Purchase Price: It is presumed that the securities used as security will be limited to Shari’ah compliant securities. 3.Margin Maintenance: The margin maintenance methodology also needs to be resolved and again needs to be quick, effective and robust. Easiest form would be to add or return Sukuk depending on collateral level agreement Continued… 23 Collateralization & Sukuk

Issues for Consideration (Continued…) 4.Broker Credit Risk: The parties will be taking a credit risk on the commodity broker in respect of its obligations. However, this is similar to standard commodity Murabaha documentation. 5.Re-hypothecation: In conventional repo, the buyer has an ability to make use of the repo’d securities in its own business, which adds to the economic value of the repo to the buyer. How to replicate this in Shari’ah complaint way needs to be determined. Potentially Title Transfer Agreement may achieve the desired result. 6.Accounting Treatment: The applicable accounting treatment would need to be clarified. 24 Collateralization & Sukuk

IIFM may put together standard product guidelines and required documentation for Collateralized Murabaha where Islamic Custodian Bank or Clearing Company may provide the required services for local market. Based on findings and as recommended in the reference paper, institutions are using this structure. Recently ADIB and NBAD made an announcement on entering into Islamic repo using this structure. The standard documentation for this product will be: 1)Guidelines on Product & Document 2)Collateralized Murabaha Agreement 3)Pledge Agreement 4)“IS” Global Master Agreement 5)Collateral Management Document & Client Service Documents 25

Collateralization & Sukuk Next Steps  Collateralized Product Consultative meeting Q

Thank You