RHB FIC Global Sukuk Markets Weekly - 16/10/15

16 October 2015

Global Sukuk Markets Weekly

Index Rallied on Disappointing Chinese and US Data; TUFIKA 4/19 Looks Attractive

Highlights & Performance

¨   Disappointing Chinese and US data boosted Sukuk returns but tempered by unimpressive momentum. The Bloomberg Malaysia Sukuk Ex-MYR Total Return (BMSXMTR) index rebound another 0.20% to 102.4; while the Dow Jones Sukuk Total Return (DJSUKTXR) index posted a 0.22% pick up to 156.1 from 155.9 a week earlier. Interest appeared titled towards Malaysian and Saudi credits, with IDB Trust Services 18 & 19 (Aaa /NR/AAA; Sta) and MALAY 21 & 25 (A3/A-/NR) trading at +USD3.2m in market capitalization. Weighted average yield closed 3.4bps tighter at 2.24% as market continues to speculate a delay in Fed liftoff until 2016 over weaker Chinese import of -17.7% YoY (which deepen concerns on global demand) and slower US retail sales of +0.1% vs. prior month of +0.2%, although core inflation rate edged up to 1.9% y-o-y (Aug: 1.8%; Fed’s target: 2.0%), in our opinion.

¨   Pressure on GCC countries’ CDS amid rising geopolitical tension over Iranian threat. The credit protection costs for Bahrain widened the most in GCC region by 17.6bps to 314.3 as compared to Abu Dhabi (+3.7bps to 74.7), Saudi Arabia (+2.9bps to 127.9), Dubai (+2.5bps to 193.4) and Qatar (+1.3bps to 73.4). However, an opposite trend was seen across Indonesia, Malaysia and Turkey to close at 213.5 (-13.9bps), 200.0 (-6.9bps) and 268.8 (-1.2bps).

¨   Rising debt/operating cash flow ratio of US onshore oil producers. The decline in oil price has resulted contraction in revenue and cash flow of US upstream oil players, squeezing earnings and their ability to service debt. Many companies have responded through cuts in capital expenditures and operating costs while raise more cash by selling off asset and raising debt. As showed in the Chart of the Week, the ratio of debt repayments to operating cash flow has ballooned 83% in 2Q15 and has been on an upward trend since 2012. The implication of this is worrying as oil & gas companies have geared up heavily even during the good times and remains heavily leveraged. Secondly, the oil price decline stressed valuation of oil & gas companies’ reserves which will in turn put heavy upward pressure on borrowing cost, as evidenced from wider spread of averaged 11pp above risk-free rate for high yield energy companies since Aug-15. The outlook remains challenging as prospects remained weak for oil price recovery and therefore highly leverage companies will probably be exposed to a further financial distress.

SOVEREIGN UPDATES

Country/Issuer	Update	RHBFIC View
Dubai (NR)	·     Emirates NBD Dubai Business Activity Index (compiled by Markit), (non-oil sector) slowed to 56 in September 2015 from 57.6 in August 2015. Supported by improved construction (Sep 2015: 60.1; Aug 2015: 58) and wholesale & retail (Sep 2015: 58.1, Aug 2015: 56.1) but was moderated by a slowdown in travel & tourism (Sep 2015: 52; Aug 2015: 52.6).	Neutral. Private sector companies were more cautious as business activity and new orders growth were softer than what was seen in the first half of 2015. Dubai’s softer business activity index is in line with the slowdown seen across the UAE in September 2015. The UAE Minister of Economy expects UAE GDP growth to top 3.5% in 2015 (IMF 2015 forecast: 3%), from 4% in 2014 (IMF estimate). The oil slump has already impacted UAE’s 2015 GDP forecast posted in 2014, cut by 1.1 percentage point, impacting the real estate market and corporate activities. Despite these cuts in growth expectations, private sector growth still remains well above 50 and we do believe the non-oil sector should help support growth in 2015 and 2016. Overall, DUGB (NR) sukuk names tightened by an average 2bps W-o-W, while INVICOR 3.508% 5/20 (NR) tightened 2bps W-o-W and DIFC 4.325% 11/24 (NR/BBB-/NR) was unchanged during the week.
Saudi Arabia (Aa3/Sta; AA-/Neg; AA/Neg)	·     Non-oil exports continued to fall by 19% Y-o-Y in August 2015 (July 2015: -20.6% Y-o-Y) making August its 11th consecutive decline. -       The decline is weighed heavily by industrial chemicals (29% share of export commodities), plastic products (32% share), transport equipment (10% share) and base metals (8% share). ·     Real estate sales index (total residential and commercial) declined further to 16.7% Y-o-Y as of 13 October 2015 (-17.3% Y-o-Y as of 13 September 2015). -       The decline in the index was mainly driven by falling prices of villas (-28% Y-o-Y), agricultural land (-35.5%), buildings (-42.6%) and plots of land (-19.7%). Total number of deals have also been consistently declining at about the 9% level, with data as of 13 October 2015 showed a decline of 9.3% Y-o-Y from -9.9% in 13 September.	Mildly negative. Saudi’s economic conditions have been deteriorating with its non-oil exports declining for the 11th consecutive month (since October 2014), while overall real estate prices have declined since the fall of oil prices. Net foreign asset, which may be able to help finance the fiscal deficit, has been declining, falling to its lowest since February 2013 to USD654.5bn in August 2015 from USD661bn in July 2015. Growth is likely to be stable this year, as the IMF projects a 3.5% GDP growth in 2015, unchanged from 2014 with an increase in oil production and continued government spending in order to boost the economy. However, going forward into 2016, growth is expected to be slower at 2.7% as government spending will adjust to lower oil prices, given that the fiscal deficit is expected to widen to 20% of GDP. Saudi Arabia’s 2016 budget should be announced late December where we expect reduced capital expenditure plans or postponement or scale back of infrastructure projects. Despite the large foreign reserves it has been deteriorating; -12.8% since June 2014. It has the ability to repay debts, but the view is balanced by its willingness where it has not made much progress on its economic diversification and its subsidy rationalization. ISDB (Aaa/NR/AAA; Sta) names tightened 12bps W-o-W, while the Saudi Arabia proxy, SECO (A1/AA-/AA; Sta), had an average decline of 1bp W-o-W.
Indonesia (Baa3/Sta; BB+/Pos; BBB-/Sta)	·     Foreign trade weakens in September 2015: -       Exports fell 17.98% Y-o-Y (August 2015: 12.12%) -       Imports fell 25.95% Y-o-Y (August 2015: 16.18%) – the second largest decline since 2012 -       Increased trade surplus to USD1trn in September 2015 (August 2015: USD328m) ·     Indonesia’s 2016 budget showed that the budget deficit expectations tentatively sits at 2.15% of GDP in 2016 from a forecasted 2.21% in 2015 (2014: 2.13%). The IMF believes that Indonesia should have an increased gross debt-to-GDP level in 2016 at 26.7% to finance the deficit, from 26.5% in 2015 (2014: 25%).	Neutral. Weak investment growth and domestic consumption contributed to declining imports, given the weakening IDR (devalued by c.11% YTD) and high inflation (August 2015: 6.83% Y-o-Y; BI CPI target 2015: 3-5%). The increased trade surplus was not the result of improved external demand, but rather weakened domestic demand. Indonesia’s Prime Minister, Joko Widodo has targeted 2016 GDP at 5.3% (cut by 0.2 ppts from August budget proposal), while 2015 is forecasted to grow less than 5% this year (2Q15: 4.67% Y-o-Y; 1Q15: 4.72% Y-o-Y). Looking to the 2016 budget, we believe that Indonesia’s move to seek USD4.2bn funding from Asian Development Bank (ADB) and World Bank should help support, only in the short term, forex reserves (August 2015: 7 months of imports or USD101.7bn) as well as helping to cover the deficit financing infrastructure projects. Moody’s expects weakening import demand as well as cooling demand from China to slow growth, in a report published in September 2015. In this same report, Moody’s also adjusted Indonesia’s 2015 GDP forecast from 5% (May 2015) to 4.7% (September 2015) and 2016 forecast from 5.5% (May 2015) to 4.7% (September 2015), mainly due to weaker import demand. However, S&P revised its outlook to positive from stable in May 2015 due to its improved policy credibility from monetary and financial sector management. The INDOIS (Baa3/BB+/BBB-) complex tightened by an average 3bps W-o-W, led by INDOIS 4.325% 25 (-11bps W-o-W to 4.62%).

CREDIT UPDATES

Company/Issuer	Sector	Country	Update	RHBFIC View
Turkish State-Owned Commercial Banks	FI	Turkey	·      Fitch affirmed T.C. Ziraat Bankasi A.S. (Ziraat), Turkiye Halk Bankasi A.S. (Halk) and Turkiye Vakiflar Bankasi T.A.O.'s (Vakifbank) rating on 15-Oct with outlook remaining stable; ·      ROE stayed adequate as the Halk and Ziraat’s ROE ranged between 13% and 17% while Varifbank’s fell to a moderate 9%.  Capitalization remained robust with Fitch Core Capital ratios of 10.1% (Vakifbank), 11.7% (Halk) and 13.8% (Ziraat). Asset quality remained healthy for Ziraat, Halk and Vakifbank at NPL of 1.7%, 3.2%, 3.6% respectively; at reserve coverage of 72%, 76% and 91% respectively.	Neutral. These banks supported by their healthy financial metrics in terms of profitability, asset quality and capitalization. These strength are pressured by the challenging operating environment, slowing economic growth, heightened political uncertainty and devaluation of Turkish Lira.
Qatar Islamic Bank (QIB) (NR; A-/Sta; A+/Sta)	FI	Qatar	·      QIB, the largest Qatari Islamic bank in terms of total assets plans to issue USD1.5bn Sukuk via QIB Sukuk Ltd (NR/NR/A+), with unsubordinated unsecured obligations of QIB; ·      3Q15 net profit grew 24.8% y-o-y to QAR1.4bn, on the back of +24% growth in financing and investing activities and +19% growth in net fee and commission income; ·      3Q15 NIM and NPL stood at 2.87% (2014: 2.91) and 0.66% (2014: 0.92%) respectively. CAR recorded at 14.2% in 3Q15 (2014: 14.6%; minimum requirement: 12.5%).  ·      Well-diversified financing book with reliance of <=22% in certain business line.	Positive. The new issue probably used to refinance the matured USD750M QIBKQD 7/10/15 which could increase debt-to-asset ratio from 14.4x to c.16.6x. However, this will likely be moderated by sound profitability, asset quality and capitalization. Yield for QIBKQD 10/17 closed almost flat at 1.61% (+1bps).

SUKUK IDEA

Add TUFIKA 4/19

Bond(s)	TF Varlik Kiralama AS, TUFIKA 5.375% 4/19 (YTM: 4.529%;  T+352.6bps; Z+353.1bps)
Amount outstanding	USD500m
ISIN	XS1057852912
Rating(s)	NR/NR/BBB; Sta
Key Term(s)	¨     Murabaha structure ¨     Senior unsecured ¨     Irrevocably and unconditionally guaranteed by Turkiye Finans Katilim Bankasi (TF; NR/NR/BBB; Sta)
Relative Value Commentary	We initiate a preference on TUFIKA 4/19 as it looks attractive at 40.4bps wider than KFINKW 6/19 of similar rating by Fitch and issue size. TUFIKA 4/19 trades 70.5bps wider than TUFIKA 5/18 for longer-dated by 1 year despite having a smaller issue size, which we expect to see a reasonable probability of tightening towards TUFIKA 4/19.
Key Credit Highlights
Investment Merit(s)		Investment Risk(s)
¨    Strong shareholder support. TF is 67%-owned by National Commercial Bank (NCB; A1/Sta; A+/Neg; A+/Neg), the largest bank in Saudi Arabia with total assets of USD116.8bn which in turn is majority owned by the Saudi state (84.4%). The high NCB’s support is reinforced by strategically importance of TF being a full-fledged Islamic bank, larger stake acquisition compared to 2013’s 66.3% shareholding and regular capital injections through bonds purchases.  ¨    Adequate capitalization. TF’s CET1 ratio and total capital ratio were 12.2% and 12.47% respectively as at end-Dec 2014 (vs. minimum capital requirements of CET1’s 8.5% and total capital ratio’s 10.5%), which supported by the regular capital injections and retained earnings despite ambitious loan growth of 30% on average since 2010. ¨    Good performance record with net profit stood at a CAGR of 13% between 2010 and 2014 and net interest margin of 4.3% vs. industry average of 3.5%. The loan growth has increased by 31.8% y-o-y to TRY23.4bn in 2014 yet would foster only moderate credit growth moving forward, owing to subdued economic growth and tight funding.		¨     Political uncertainty on parliamentary elections in Turkey which may possible influence the shareholder commitment in the event of financial distress. ¨     Heighten competition from impending entry of state-owned Islamic banks (Ziraat Bank, Halk Bank and Vakif Bank) which will weigh on margins over time. However, there is a growth potential in Islamic banking, given its 32.2% market share and NCB’s expertise to exploit the market with conventional banking dominates. ¨     Pressure on asset quality with NPL of 2.9% (+20.8% y-o-y), newly classified NPL of TRY162.7m (+64% y-o-y) and loan-to-deposit ratio of 129% (+5% y-o-y) as at end-2014. The growing NPL was contributed primarily from manufacturing, commerce and construction sectors. Turkey’s interest rates are managed against a basket of major currencies and has come under upward pressure as Lira depreciated by almost 24% YTD which may cause further deterioration of TF’s asset quality.