Impact investing through Green Sukuk bonds
To understand what a green Sukuk is, it is only natural to first talk about green bonds and how they are starting to have a profoundly positive impact.
Green bonds have been around now for over a decade having hit the market in 2008 long before impact investing and ESG rated funds were mainstream and popular. Green bonds were publicised as an attempt by the financial industry to build a product that could play a greater role in protecting the planet while still offering attractive investment opportunities for investors. By early 2020 it is estimated that the green bond market now represents over EUR 700 billion in assets with a record EUR 255 billion being issued in 2019.
Where green bonds and green sukuks differ is in their structure. Green bonds, much like conventional bonds, are typically structured as interest-bearing investments – which inherently does not meet the needs of customers wishing to invest in Islamic-complaint products. For this reason green sukuks were born as an alternative to meet this growing demand.
So, what exactly is a Green Sukuk?
Generally speaking, a sukuk is a financial instrument often referred to as a “Sharia-complaint bond” and is fundamentally designed to comply with Islamic principles on investing. Unlike a bond that is an income debt, sukuks are an equity-based financial instrument since any riskless return would not be considered Sharia-compliant. When purchasing a sukuk, the investor obtains a certificate of entitlement. The issuer in turn uses the proceeds to purchase a real asset. The owner of the certificate has a legal entitlement to a part of the underlying asset and as such periodically gains a share of the profits instead of earning a rate of interest. This means the investor is aligned as a shareholder of the underlying asset and therefore takes part in both the risk as well as in the potential rewards. Furthermore, as with all Sharia-complaint investments, the proceeds of the issue cannot be invested in restricted industries such as gambling, tobacco, firearms, or any other industries or sources of income considered unethical.
Not surprisingly, many sukuks were first developed and launched in markets with high populations of Muslims, but were also offered and found popularity in other financial centres such as London.
Green sukuks are sukuks used for financing environmentally sustainable projects such as solar parks, biogas plants, wind energy projects, renewable transmission, infrastructure projects or other endeavours that benefit the environment and reduce climate change damage. 2017 saw the first green sukuk issued raising $58 million for solar projects by Malaysia’s Tadau Energy. Another green sukuk issue of note was the €1 billion raised by the Islamic Development Bank in late 2019 listed on the Nasdaq Dubai.
Green Sukuk powering the future
Since the recent introduction, green sukuks continue to gain attention with Indonesia joining in with their own issue attracting an ever growing international investor base including asset managers, pension funds and international banks across Europe, Asia and the US. The $1.25 billion raised for this issue was put to work building solar power parks, a railway system to replace trucks on the roads, environmentally efficient waste management plants and reservoirs. As well as having a reduced impact on the environment, these projects also stimulate economic development and remain positive for their investors.
To underline the commitment from the international community and further the industry, a new working group has been formed including The Clean Energy Business Council, the Gulf Bond and Sukuk Association and the Climate Bonds Initiative. This group will work to educate the public on the benefits of green sukuks as well as work with governments and banks to originate and distribute the sukuks for investment. There has even been a suggestion of a modified blue sukuk to address the impact of the ocean and conserve this vital resource as well as further sustainable development in costal regions.
Both green and blue sukuks represent an extremely exciting evolution within Islamic-compliant investing, one that COCOA as an asset manager is proud to support. We look forward to including future issues within our investor portfolios and see huge future potential adoption from a growing international audience.