The International Islamic Liquidity Management Corp has overcome regulatory and technical obstacles in issuing its first sukuk, but it faces a fresh challenge in ensuring that the paper becomes widely traded across borders.
The $490 million, three-month Islamic bond was auctioned to seven primary dealers from Asia, the Middle East abd Europe, the IILM said on Monday - a step towards creating an international market in Islamic financial instruments.
"This is a major breakthrough for Islamic finance because it will assist in facilitating liquidity management by Islamic financial institutions," Malaysia's central bank governor Zeti Akhtar Aziz told reporters on Tuesday.
But the breakthrough will only be complete if IILM sukuk are actively traded by Islamic banks, rather than held to maturity - and this goal may be even harder to achieve than the complex issuance process.
The unexplained withdrawal of the Saudi Arabian Monetary Agency from the IILM in April has cast doubt over acceptance of the sukuk by banks in Saudi Arabia, a key Islamic market.
Meanwhile, it is not clear whether the existing primary dealer network - which includes only two purely Islamic financial institutions - is broad enough to engineer trade in IILM sukuk across major markets.
"The initial idea was to have two primary dealers per country, which has not happened," said a source at one of the primary dealers, who declined to be named because of commercial sensitivities. "One suffices for now."
The Malaysia-based IILM has not revealed details of the sovereign assets behind its sukuk, but the issue won an A-1 credit rating from Standard & Poor's. The IILM has said it will eventually expand its sukuk programme to as much as $3 billion.
The IILM, backed by nine central banks plus the Jeddah-based Islamic Develoment Bank, took nearly three years from its founding in October 2010 to issue its first sukuk.
Technical complexities were at least partly responsible for the delays; sovereign assets needed to be found from member states to back the sukuk, and the multinational nature of the issue meant multiple sharia boards examined it.
But internal management tensions also appeared to be involved; the IILM replaced its chief executive in October last year, and this year reshuffled its sharia board, losing four of the original six members including senior Saudi and Qatari scholars. In April, the Saudi Arabian Monetary Agency unexpectedly withdrew from the IILM, without giving a reason.
The absence of official Saudi support could limit use of the sukuk by Saudi institutions, which include some of the world's largest Islamic banks - at the very least, they look unlikely to be encouraged by authorities to trade the instrument.
Saudi Arabia's Al Rajhi Babking Corp, the world's biggest Islamic bank by assets, "was very disappointed about SAMA's exit", said one Gulf banker familiar with the situation. Al Rajhi declined to comment.
The IILM sukuk was sold to the primary dealers at 30 basis points over the London Interbank Offered Rate - enough, analysts said, to give the primary dealers room to sell it on in the secondary market.
"The pricing is generous considering the credit rating and tenor," said Doug Bitcon, Dubai-based head of fixed income funds and portfolios at Rasmala Investment Bank.
But the make-up of the primary dealer group may raise questions over whether it will distribute the sukuk across a wide range of Islamic banks. Only two primary dealers, Kuwait Finance House and AlBaraka Turk, are dedicated Islamic institutions.
The other five are KBL Private Bankers, Malayan Banking Bhd (Maybank), National Bank of Abu Dhabi, Qatar National Bank (QNB) and Standard Chartered Bank , which has an Islamic arm.
The prevalence of conventional banks in the group suggests the IILM may have decided to choose the largest possible primary dealers in order to maximise distribution of the sukuk. But it also raises the possibility that the instrument could be bought by conventional institutions rather than the Islamic banks which most need it.
Earlier this year, bankers involved in planning for the issue told Reuters that Al Rajhi, Qatar Islamic Bank and Abu Dhabi Islamic Bank were expected to become primary dealers. But they were not on the list released by the IILM on Monday.
The IILM did not respond to requests for further comment on its sukuk issue.