FUNDING, INFRASTRUCTURE, ASSET MANAGEMENT, CAPITAL MARKETS AND RESPONSIBLE FINANCE INITIATIVES IN TURKEY

With the Republic returning to the market via Euro and dollar issuances in May 2020, we assess what Sukuk can offer Sovereign issuers in challenging market environments. Are Sukuk still a viable option for Turkish banks seeking to enhance liquidity and capital management, while diversifying funding sources? What can technology, particularly tools such as Blockchain, offer capital market and asset management innovation in Turkey? With the Republic issuing its first green Sukuk, how can sustainable and responsible investment make further progress in Turkey and can the UN Sustainable Development Goals be applied to the Republic’s participation finance and investment activities? Are social bonds an opportunity for the country? What’s a realistic latest assessment of the pension fund industry in Turkey and how can the participation finance industry play a role? Lastly, we examine the country’s infrastructure requirements in the coming years and ask what can be funded through Shariah compliant facilities, how can risk be effectively managed and do public/private partnerships offer a viable opportunity?

FUNDING, FINTECH AND RESPONSIBLE FINANCE

With the Republic returning to the market via euro and dollar issuances in May 2020, the second panel of the IFN Turkey Forum, moderated by Tarik Akin, the division director (Islamic finance) at the Finance Office of the Presidency of the Republic of Turkey, looked at the capital markets, funding, fintech and responsible finance aspects of the market. The discussion explored what role Sukuk could play in supporting recovery, how technology can help promote innovation, and how sustainable and responsible investment can make further progress within Turkey.

Dr Sutan Emir Hidayat, the director of the Islamic Economy Supporting Ecosystem at the National Committee for Islamic Economy and Finance, gave his experience from an Indonesian perspective on the current outlook for the global industry — particularly the downside risk in 2021 and the respective repercussions for the Islamic financial industry in Turkey. “When it comes to 2021, I expect the global growth of the Islamic financial industry will continue to slow,” he predicted. “We foresee an expected mild recovery, and low to middle single-digit growth. Notably, COVID-19 vaccination should be a priority, and Sukuk are likely to be a solution to finance the procurement of these vaccines.”

A key element of the discussion was Turkey’s target of a participation banking market share of 15% by 2025 — is this goal realistic? “There are only three OIC countries that are G20 members, and Turkey is one of them. It plays a vital role in regional economic development, including Islamic finance,” stressed Dr Sutan. “But there are several challenges that need to be tackled. These include literacy and awareness — there is a clear positive relationship between literacy and financial inclusion. There is still a lack of a clear Islamic financial legislative framework and infrastructure. There is a need for more product innovation — this is limiting participation banks because of a lack of products. A more active secondary market for Sukuk is also needed. The previous issue of double taxation of Sukuk has been resolved, but more companies need to be encouraged to issue. Currency risk is another issue. Dollar-denominated Sukuk is a risk because the lira is so volatile. If you can tackle all these things, with a clear master plan for Islamic finance in Turkey, then Inshallah you can achieve the 15%.” But not everyone was as optimistic. Tarik Borekci, the vice-president and head of treasury in the Treasury & Strategy Group of Vakif Katilim Bankasi, gave a detailed financial analysis of the specific figures involved. “There is clearly room for further growth in Turkey for participation banks. I think to achieve this, capitalization, a larger labor force and digitization are key drivers,” he concluded. “But from a financial point of view, capitalization is the main issue if the sector is to reach 15%. There is a TRY60 billion [US$7.13 billion] gap between the projected and the required total liquidity figure that is needed to drive the balance sheet to reach a 15% market share. I don’t think the banks necessarily have a capital plan to inject this much, so it might not be a realistic figure. But if new players join into the market, then these figures and projections could change.”

Tarik Borekci was also optimistic about the potential to develop a local Sukuk market. “Sukuk gives us a change to access the longer capital markets and diversify our funding sources. Participation banks already actively issue Sukuk in the local market, and with the improvement of the pension fund system, where participants choose Islamic funds, the local Sukuk market certainly has the potential to grow further,” he noted. Islamic fintech is another promising growth area for Turkey. Leilya Shamel, the associate director of DDCAP, explored the opportunities within the sector. “Turkey has great potential here. First, because of its geographical position lying between Europe and Asia, which opens up a bigger market of both users and providers. And second, the population of Turkey, which is very entrepreneurial and majority Muslim. The first pillar the government should focus on is increasing awareness. This is crucial in the development of Islamic fintech. Second is building trust so that market participants feel secure, followed by government support, building a regulatory framework and supporting it through sandboxes, accelerators and so on. Then the third pillar is the availability of funding. The developers of fintech usually come from small start-up companies and they struggle with access to funding forces. A bigger role could be played by venture capital, private equity and investment funds to develop this sector.”

Alaa Alaabed, the chief research officer at Wethaq Capital Markets, highlighted more developments within the capital markets, particularly the growing focus on a more inclusive and sustainable path to recovery out of the global pandemic. “We are seeing the growth of ESG [environmental, social and governance] funds outperforming, and there is an increasing interest from both issuers and investors for green and sustainable issuers,” she explained. “In the Islamic space, we have seen a number of initiatives that are very relevant here, including in Turkey. The IDB issued its first-ever sustainability Sukuk in June 2020. A catalyst like this could really, it is hoped, encourage and spur on green and social sustainable issuance going forward. Another point is the increasing focus on Waqf as a funding instrument for societies.”

Finally Wail Aaminou, group CEO at Al Maali Group, discussed how Turkey could apply the UN Sustainable Development Goals to its participation finance activities. “The most important element is bringing together Islamic finance and impact finance under the same umbrella,” he urged. “It’s an interesting value proposition, but marketing is vital. We need to bring capital, we need to bring talent and we need to bring lots of different players on board to make it happen.” To hear the full discussion and derive full value from these cutting-edge debates, you can view the complimentary event recording here.

KEY TAKEAWAYS

• Islamic finance should focus on impact investing. It should also be one of the focus areas of the Istanbul Finance Center project.

• Impact investing also has the potential to provide a concrete value proposition for Islamic financial institutions.

• Instead of focusing solely on profit- and loss-sharing contracts, blended finance should be used. Here, contracts and products combining Waqf, fintech and other traditional products can play important roles especially for achieving social finance goals during and post-COVID-19.

• Turkey should also consider risk guarantee mechanisms to attract more risk-averse people in risk-sharing contracts.

• Turkey’s 15% penetration target by 2025 is achievable on the condition that capitalization and liquidity needs of participation banks are met and appropriate policy tools are developed.

• Another issue for the liquidity management of participation banks is short-term participation accounts. It gives rise to asset– liability mismatch and high liquidity needs.

• Islamic finance strategies in Turkey should focus on achieving financial literacy and awareness. These are the key factors on the demand side.

• There is generally high demand for green and sustainability Sukuk reflected in oversubscription. This potential should be considered and Turkey should issue green and sustainable Sukuk.

• Fintech-based Sukuk provide a high potential and opportunity to cut down on costs for the Turkish Treasury. Tarik Akin is the division director (Islamic finance) at the Finance Office of the Presidency of the Republic of Turkey.

The Turkish government is endeavoring to increase the share of Islamic finance from 6% to 15% by 2025. However, to achieve this goal, a combined effort is needed from both participation banks and capital market participants. Liquidity is tight as the funding mostly comes from short-term deposits (80%) and only a little from Sukuk issuance (20%). There is also a mismatch between banks’ deposits and loan terms. Currency risk is another challenge for Sukuk issuance, given the fluctuations of the Turkish lira. Islamic fintech can be a good solution and driver of the development of capital markets and provide a boost. Fintech provides issuers with cost- and time-efficient solutions and at the same time allows investors to securely invest via online platforms. Turkey can be a regional hub for knowledge and expertise in Islamic fintech and it has great potential to so. There are already policy documents being developed to promote Islamic fintech in the country. Leilya Shamel is an associate director at DDCAP.

I would like to emphasize that Turkey is one of the key Islamic banking markets globally and has long-term growth potential. Turkey is a regional power and a member of G20 with its strategic location connecting Europe and Asia. However, there are challenges that need to be tackled to ensure Turkish participation or Islamic banks flourish, and some of these challenges are: (1) lack of public literacy and awareness of Islamic banking and financial products (2) lack of a fully-fledged Islamic financial regulatory framework and a Shariah governance structure (3) lack of variety in Islamic banking products, and (4) there is no active secondary market for Sukuk (liquidity management issue). It all depends on how the Turkish government and other stakeholders tackle the challenges, and plan and execute their strategies in order to achieve their target of a 15% market share in 2025. Dr Sutan Emir Hidayat is the director of the Islamic Economy Supporting Ecosystem at the National Committee for Islamic Economy and Finance.

On the Istanbul Finance Center project positioning on impact finance, it would be interesting to bring Islamic finance and conventional finance under the same value proposition. Attracting international talents and building awareness are key. On aligning finance with sustainable development goals, the starting point is leveraging international standards such as Principles for Responsible Banking, Principles for Sustainable Insurance and Principles for Responsible Insurance from the United Nations Environment Programme Finance Initiative and adapting them to the local context. Standards can be made mandatory progressively. On developing risk-sharing instruments for impact finance, strategies to consider are: 1) leveraging non-profit funds through blended finance instruments, 2) developing risk guarantee mechanisms, 3) putting in place a rating infrastructure, and 4) supporting fintech. Wail Aaminou is group CEO of Al Maali Group.