Dubai: Dubai Islamic Bank (DIB) may pay more than twice the Arabian Gulf average on Sharia-compliant debt for its first perpetual sukuk as the lender seeks to avert a downgrade by Moody's Investors Service.
The United Arab Emirates' biggest Islamic lender will probably pay between 6.5 per cent and 7.14 per cent for the sukuk to boost Tier 1 capital, the core resources needed to cushion against losses, according to three analysts surveyed by Bloomberg. This compares with a 2.65 per cent average yield on Islamic bonds issued by financial institutions in the Gulf Cooperation Council (GCC), according to HSBC/Nasdaq Dubai indexes.
The yield on Abu Dhabi Islamic Bank (ADIB) hybrid perpetual sukuk sold in November is 6.28 per cent, data compiled by Bloomberg show.
Moody's placed Dubai Islamic on ratings watch for a possible cut in December because loan quality "remains very weak compared to peers" and the bank hasn't set aside enough money to cover losses. The world's oldest lender complying with Muslim banking rules is seeking to absorb bad loans stemming from a property crash that sent Dubai home prices tumbling more than 65 per cent.
Tier-1 sukuk can be treated as equity and thus used to bolster capital. "With a yield of seven per cent or more, DIB Tier 1 sukuk will be very attractive to the investors seeking high yields as no other names in the sukuk market offer higher yield except for riskier names such as Nakheel or Dana Gas," Montasser Khelifi, a Dubai-based senior analyst at Quantum Investment Bank, said by e-mail on March 7.
Dubai Islamic hired HSBC Holdings, Standard Chartered, Emirates NBD Capital, National Bank of Abu Dhabi (NBAD) and itself for the possible sale of dollar-denominated debt. DIB's Tier-1 capital ratio stood at 13.6 per cent at the end of 2011, below the UAE average of 15.4 per cent, according to Moody's.
The capital includes common stock, retained earnings and perpetual preferred stock and debt. DIB, which is taking over mortgage lender Tamweel, last issued sukuk in May, when it raised $500 million from the sale of five-year securities at a coupon of 4.752 per cent. The yield on those notes has since fallen to 3.44 per cent on March 8, according to data compiled by Bloomberg.
The planned sukuk sale should boost DIB's Tier-1 by 4.6 percentage points by the end of the year, Jaap Meijer, a director of equity research at Dubai-based Arqaam Capital, said in an e-mailed note on March 5.
"Some of DIB's credit challenges are its weak asset quality and low provisioning levels, however, the new perpetual sukuk will strengthen capitalisation," Apostolos Bantis, a credit analyst at Commerzbank in London, said by e-mail on March 7.
"Given the equity-like characteristics of the perpetual sukuk, returns should be priced not far away from DIB's dividend yield." DIB shares are trading at a gross dividend yield of 6.8 per cent, according to data compiled by Bloomberg.
Bad loans at the bank comprised 16.8 per cent of the total at the end of 2011, above the UAE average ratio of 10.6 per cent, and are expected "to remain elevated through to year-end 2013," Moody's said. The ratings company downgraded three Dubai banks, including the biggest one, Emirates NBD, in December because they haven't done enough to address the pile up of bad debt.
Dubai Islamic, which was spared the cut then, has reduced its exposure to real estate. Credit to the property industry comprises 27 per cent of its loan book, down from 40 per cent at the end of 2008, Moody's said.
Selling perpetual notes may also attract investors seeking exposure to an entity they see as backed by the Dubai government, Commerzbank's Bantis said. The government owns about 30 of the bank.
Dubai's economy may expand more than four per cent this year, similar to 2012, helped by trade, transport and logistics, Sami Al Qamzi, director-general of Dubai Department of Economic Development, said in an e-mailed answer to questions March 5.
The department also expects "the construction and real estate sector, which is already showing positive signs, to bounce back," he further said.
The government cut its borrowing costs by 40 per cent when it tapped the market in January for $750 million of notes that comply with Islam's ban on interest.
The yield on Dubai's 6.396 per cent sukuk due November 2014 declined 344 basis points in 2012, data compiled by Bloomberg show. The premium investors demand to hold Dubai's sukuk over Malaysia's 3.928 per cent notes due June 2015 has narrowed more than 150 basis points in the past year to 82, data compiled by Bloomberg show.
"Overall markets are firm, the Dubai story is generally in good shape and liquidity in the sukuk space is strong," according to Abdul Kadir Hussain, chief executive officer at Mashreq Capital DIFC.
"Given DIB's high exposure to Dubai real estate, it's also helping that the signs are that the real estate market has stabilised for now,"he added.