The Islamic sustainable finance space has seen tremendous growth over the past year albeit from a low base. Sustainable finance issuances in core Islamic finance countries alone have more than double in the first nine months of 2023 to reach US$22.1 billion, with Islamic issuances significantly contributing to the growth, according to S&P Global Ratings (S&P).
The sector has seen several trends over the past year including developments in the regulatory space, newcomers entering the Islamic voluntary carbon market (VCM) landscape and the issuance of sustainability Sukuk and bank financing deals, to name a few.
Regulations
2023 has been a big year for sustainable finance regulations both Islamic and conventional. In June this year, International Sustainability Standards Board (ISSB) under the International Financial Reporting Standards issued the long-awaited sustainability standards.
While the ‘General Requirements for Disclosure of Sustainability-related Financial Information’ and the ‘Climate-related Disclosures’ standards are currently voluntary, they could become mandatory in specific jurisdictions as the regulatory landscape evolves.
Also introduced this year as a global standard were the finalized recommendations for the Taskforce on Nature-related Financial Disclosures in September.
This year also saw stricter naming conventions for sustainable funds being introduced. The Securities Commission Malaysia issued new guidelines to facilitate the implementation of the ASEAN Sustainable and Responsible Funds Standards in Malaysia. In lockstep, the European Securities and Markets Authority and the UK’s Financial Conduct Authority closed their consultation periods for their guidelines for the naming of funds with ESG or sustainability-related terms.
In the GCC, the Abu Dhabi Global Market’s Financial Services Regulatory Authority introduced fund rules in July 2023 concerning the labelling of sustainability-related products.
The Islamic capital market has also seen some notable sustainable regulation developments. In March 2023, the Arab Monetary Fund released a guidance for sustainable sovereign instruments including Sukuk as part of the GCC’s strategy to develop green taxonomies.
In South Asia, The Pakistani government, a regular issuer of Sukuk, hired an Islamic bank to advise on the issuance of a green Sukuk. The facility will be the country’s first sovereign green Sukuk. The government of Bangladesh has also made sustainable finance efforts by easing the rules on social impact Sukuk in September this year, allowing it to be traded in the secondary market at a negotiated price.
Bangladesh, which has one green Sukuk under its belt in the private sector, is looking to issue its debut sovereign green Sukuk soon. Notably, the International Finance Corporation, the private sector development arm of the World Bank Group, is also actively engaged in developing Bangladesh’s Sukuk market.
Separately, Indonesia, which is one of the most celebrated sustainable Sukuk issuers, is also hoping to expand its offerings by amending their existing Waqf regulations. This will allow them to issue their cash-Waqf-linked Sukuk in other denominations and attract foreign capital to develop Waqf assets.
VCMs
The development of the VCM space has been arguably the most exciting development in Islamic sustainable finance this year. Players from multiple jurisdictions have been entering the space. What is particularly exciting is the potential for using carbon credits as underlying assets for Islamic finance transactions. This could provide a more sustainable alternative to the current dominant underlying assets for Islamic finance transactions including crude palm oil.
In March this year, Bursa Carbon Exchange under Bursa Malaysia, held its inaugural carbon auction selling 150,000 Verra-registered carbon credits. The auction follows the launch of the exchange late last year as the world’s first Shariah compliant carbon exchange.
In Saudi Arabia, the Regional Voluntary Carbon Market Company (RVCMC) held its sophomore carbon auction, selling 2.2 million tons of carbon credits in the largest ever carbon credit auction. Owned by the Saudi Public Investment Fund and the Tadawul Group, the RVCMC secured the first ever Fatwa to use carbon credits as underlying assets for Islamic finance transactions on the sidelines of the 27th United Nations Climate Change Conference of the Parties (COP27) last year.
As of now, the RVCMC has two Fatwas. One from the International Islamic Trade Finance Corporation (ITFC), the trade finance arm of the IsDB, and one from the Saudi National Bank for Murabahah and Tawarruq-based transactions. The RVCMC is expecting to facilitate the first Islamic finance transaction with carbon credits as underlying assets with the ITFC in the near future.
As a newcomer to the market, Indonesia launched its carbon exchange, the IDXCarbon, in September 2023. It also held its inaugural carbon emission credit trading. The auction sold thirteen carbon credits equating to nearly 460,000 metric tons of carbon dioxide equivalent. The auction follows the issuance of the country’s carbon trading rules in August this year. While the exchange is not Shariah compliant at the moment, the Indonesian Financial Services Authority has confirmed that there is the possibility of pursuing Shariah compliance in the long run.
While the space has seen considerable growth this year, it is not free from criticism, with VERRA, an international climate action standard-setter and carbon credit registry, embroiled in a series of backlash from numerous publications regarding the efficacy of its registered carbon projects.
Deals
This year saw a number of landmark Islamic sustainable finance transactions, with the total volume of sustainability Sukuk increasing by around 50% to US$6.7 billion in the first half of the year compared with 2022, according to S&P. The issuance of sustainable Sukuk as a whole has been increasing, with the UAE, Saudi Arabia and Turkiye representing the top sustainable Sukuk issuers for the first nine months of 2023. Several Islamic banks took their first leap into the Islamic sustainable capital market space with debut issuances. Real estate Sukuk have also been a notable development.
In April this year, Al Rajhi Bank issued its US$1 billion debut dollar sustainable Sukuk. In July, First Abu Dhabi Bank issued the UAE’s first AED-denominated green Sukuk worth AED1.3 billion (US$353.89 million). Closing off the year with another debut sustainable Sukuk bank issuance, Abu Dhabi Islamic Bank issued its inaugural US$500 million dollar-denominated sustainable Sukuk in November 2023.
In addition to banks issuing green Sukuk, 2023 also saw a few sustainable Sukuk to finance real estate projects. Aldar Investment Properties, a real estate developer and investment company based in Abu Dhabi, debuted its US$500 million green Sukuk in May.
In May this year, UDA Holdings issued its inaugural RM500 million (US$106.56 million) Sukuk to finance the development of Waqf projects including residential and housing projects on Waqf land. Also in Malaysia, Sime Darby property, which is a regular Sukuk issuer, included a RM200 million (US$42.62 million) sustainable Sukuk tranche under its August RM600 million (US$127.87 million) offering to fund its land acquisition efforts. The proceeds from its debut sustainable tranche will contribute to building its sustainable real estate portfolio.
Islamic capital issuers aside, banks have also been active in the Shariah sustainable space. Several sustainable bank financing deals in the GCC have seen the inclusion of an Islamic tranche in the larger financing effort.
Spurred by Saudi Vision 2023 and similar sustainability initiatives, these deals include a number of project financings under Saudi Arabia’s sustainable NEOM mega project as well as broader clean energy projects in the GCC from the likes of ACWA power, Rawabi Energy, Abu Dhabi National Energy Company or TAQA and Abu Dhabi Future Energy Company, known as Masdar.
Moving forward
Islamic sustainable finance is poised to further develop in the coming year with COP28 taking place in the UAE. Already, the Islamic Corporation for the Insurance of Investment and Export Credit has launched its climate change policy and ESG framework on the sidelines of COP28, which will see the insurance arm of the IsDB Group increase its intervention in sustainable projects.
With Islamic finance assets concentrated in oil-producing countries with pronounced sustainability initiatives, the Islamic sustainable finance space is likely to continue to grow. According to S&P, 68.3% of Islamic banking assets are distributed in the GCC. The region, particularly Saudi Arabia, will remain supportive for the growth of the Islamic sustainable finance sector in the next one to two years, projected the ratings agency.
The substance-based shift from focusing on Halal to Tayyib, where Islamic financial products and services are aspired to be not only permissible, but also wholesome and beneficial to society, in addition to the ramping up of climate initiatives are trends we can expect to see moving forward.
In October this year, the Securities Commission Malaysia launched the voluntary principles-based Maqasid Al-Shariah Guidance for the Islamic Capital Market Malaysia, which was grounded in the principle of achieving Tayyib in the space. The Global Ethical Finance Initiative is also set to introduce a Tayyib seal to ensure that Tayyib-based considerations are being considered in investment decisions and strategies.