HONG KONG: Sukuk are the newest status symbol for leading international financial centres.

Hong Kong is the latest city outside of the Muslim world to issue an Islamic version of a sovereign bond. There’s little pent-up demand for such instruments, and the former British colony hardly needs the cash. The hope is that the move will lure other issuers. Much like the global race to trade the Chinese currency, innovation signals a city’s ambition.

The principles of sharia prohibit interest payments. To get the same effect as a bond, investors receive interest-like payments based on cash flows from assets. Typically, the government sells a property or another asset to the Sukuk vehicle, leases it back for an agreed rent, and ultimately repurchases it at the original cost.

Also read: Goldman plans sukuk issue as Islamic finance goes mainstream

Hong Kong’s $1 billion five-year issue comes less than three months after the UK government raised 200 million pounds ($325m) with its debut Sukuk. In both cases, the issues required years of preparation, including changes to tax laws. Despite the novelty, the pricing was in line with comparable UK gilts and US Treasuries, according to bankers. In Malaysia and the Middle East, home to a larger Islamic finance investor base, Sukuk often price tighter than their conventional equivalents because of the high demand for assets that are stable, cash-generative and sharia-compliant.

Other non-Muslim countries like South Africa and Luxembourg are tipped to join the Sukuk scramble. Like London and Hong Kong, neither country is obviously suffering from the lack of such services. But a sovereign issue signals a country’s faith in its Sukuk framework, and sets a benchmark that makes it easier for companies to price a similar instrument if they choose to diversify their funding sources.

So far, only a handful of high-profile Western companies such as General Electric have tapped the market. Yet if Islamic finance evolves from a niche product into a fully fledged international business, countries want to be prepared. In this sense, preparing for Islamic finance resembles the competition to host trading in Chinese renminbi, another niche business that is tipped to grow. For financial centres, status symbols are evidence that they are staying ahead of demand.

Published in Dawn, September 13th, 2014