The Islamic finance industry (IFI) now has an opportunity to innovate a new breed of Basel III compliant sukuk that could address the capital adequacy needs of Islamic banks as stipulated by the Basel III accords, according to a report.
“Tier-1 capital is regarded to be the ‘going concern’ capital which absorbs losses while the bank is still solvent. It consists mainly of Common Equity Tier 1 (CET1) instruments such as ordinary shares and reserves. Basel III does, however, allow 1.5% of the minimum Tier 1 capital ratio to be in the form of additional tier 1 (AT1) capital. AT1 capital is a layer of additional going-concern capital which is perpetual in nature. Together, the CET1 and the AT1 constitutes subordinated paid-in capital capable of absorbing losses,” the report published by Bank Negara Malaysia.
When referring to AT1 capital, the Basel III accords are signalling towards instruments that are potentially hybrid in nature (of equity and debt), offering fixed rates of return while able to absorbs losses as per equity instruments via returns which can be deferred and non-cumulative.
To satisfy the Basel III requirements, there is ample opportunity to innovate a new breed of
‘Basel III compliant’ sukuk that can address the capital adequacy needs of Islamic banks. Such an innovation offers the potential for sukuk underwriters to expand market shares and further boost the supply of sukuk in global markets. The global sukuk market continues to show strong growth momentum in 2013 after a bumper year in 2012 that saw issuances increase of 54.2% year of year basis.
Likewise, the compound annual growth rate for total sukuk outstanding between 2007 and 2012 reached 19.4%2 and additional market-segment of Basel III compliant sukuk that satisfy regulatory requirements can expand the horizons and usability of sukuk as financial instruments.