* Middle East allocated much more of sukuk than expected
* Secondary market trading below par since soon after issue
* Relatively small number of Gulf investors may have bought
* They appear to have ended up with big over-allocations
* Political, strategic motives may lie behind allocation
By Rachna Uppal and Mala Pancholia
DUBAI, Oct 11 Turkey's first sovereign sukuk
issue was a public relations triumph but it's been a financial
disappointment so far in the secondary market, showing the risks
of over-allocating debt deals to a single region.
The $1.5 billion Islamic bond, maturing in 2018 and issued
at a profit rate of 2.803 percent, dropped to about
98 cents on the dollar in the secondary market soon after issue
in mid-September and has stayed below par since then.
Traders say bids have ranged between 99.0 and 99.5 cents in
the past few days. It was bid at 99.5 cents on Thursday to yield
2.9 percent, according to Thomson Reuters data.
As Turkey's first official foray into Islamic finance, the
sukuk issue was closely watched by investors around the world,
drawing 250 separate orders totalling over $7 billion. The
successful sale paved the way for Turkey to raise 1.62 billion
lira ($905 million) with a local currency-denominated sovereign
sukuk two weeks later.
The historic nature of the dollar sukuk, however, may have
blinded some buyers to risks such as a last-minute upsizing of
the issue and an overwhelming allocation to a single region, the
"Whilst we are comfortable with Turkey as a credit, we
avoided the issue as there was no clarity on the size or pricing
until the last minutes of the deal," said Mark Watts, head of
fixed income in the asset management group at National Bank of
"When buying any asset, clarity of price and size of supply
are key. Turkey priced aggressively, a good deal for them, but
it left little on the table for investors and slipped below its
issue levels after a short period."
Turkey, rated BB by Standard & Poor's, was initially
expected to raise between $500 million and $750 million from the
issue, or up to a maximum of $1 billion, several regional
investors who attended roadshows told Reuters.
But the issue was expanded to $1.5 billion in the closing
hours, even as price guidance continued to tighten - in contrast
to the usual pattern of a substantial upsizing causing some
widening of the pricing.
Another surprise was the huge allocation to the Middle East.
Traditionally, Gulf investors have focused on their own region,
where yields are relatively high relative to credit ratings. So
an allocation of well under half of the Turkish sukuk to the
Middle East would have seemed reasonable.
But the Turkish sukuk was sold 58 percent to the Middle
East, 13 percent to Europe, 12 percent to Asia, 9 percent to
Turkey and 8 percent to U.S. investors. The small Asian
allocation was particularly shocking, since Malaysia is one of
the biggest sources of demand for sukuk globally.
Many major investors in the United Arab Emirates, both
Islamic and conventional, have told Reuters they did not put in
orders for the Turkey deal. They cited various reasons,
including unusually tight pricing for a first-time, sub-
investment grade issuer.
The implication is that a relatively small number of
investors in the Gulf ended up with considerably more of the
sukuk than they had expected.
In most deals, investors bid for more of a bond than they
think they will be allocated, on the assumption that actual
distribution of the bond will be proportional to their share of
the total bid. In this case, Turkey seems to have skewed its
allocation in favour of Middle Eastern bids.
"It was quite expensive and over-allocated. A lot of bidders
went in with conditional orders, above a certain spread, 200
(basis points over midswaps) mostly," said a regional trader who
declined to be identified.
Turkish government officials declined to comment on their
motivations for the allocations, but many market participants
think they may have had political and strategic motives.
Turkey decided to allocate a big chunk of its maiden sukuk
to the Middle East in an effort to develop a new investor base
and help cement growing business ties with the Gulf, these
market participants say.
The sukuk prospectus said negotiations for a Free Trade
Agreement between Turkey and the six members of the Gulf
Cooperation Council were underway. Meanwhile, Turkey's
Islamist-rooted government wants to develop Islamic finance, for
which the Gulf is a principal centre.
And a congress of Turkey's ruling AK Party this month made
clear that the country was focused on expanding ties with the
Middle East and the Islamic world, rather than the West, which
was barely mentioned.
"From a sociopolitical perspective, Turkey is looking East
rather than West," said a regional debt capital markets
Although some Gulf investors ended up holding more of the
sukuk than they had expected and now want to sell, there was
also interest in the issue among strategic investors in the
Gulf, bankers said - which suggests the sukuk may not have much
further downside in price.
Gulf investors have been increasing their investment in
Turkey in areas such as private equity and real estate. Bankers
said some of these investors saw the Turkish sovereign sukuk as
a way to hedge against their private sector risk in the country.
"You have to look at it as hedging. Gulf investors have
invested massively in Turkey in the last 12 months, so buying
into the sukuk is a way of hedging Turkish exposure," said a
There is also speculation that some of the Gulf's sovereign
wealth funds may have put in big orders for the Turkish sukuk,
which could account for part of the heavy allocation to the
Middle East. Supranational institutions and central banks took
10 percent of the sukuk globally, according to the breakdown of
Sovereign funds are generally conservative investors which
do not normally invest in non-investment grade instruments, and
have shown little interest in sukuk.
However, several regional capital markets sources said they
understood Turkish officials held one-on-one meetings with
regional sovereign wealth funds in Qatar and Saudi Arabia before
The deal was lead-managed by Citi, HSBC and
Liquidity House, a unit of Kuwait Finance House.
Qatar's Barwa Bank, in which Qatar Holding, the investment arm
of the Gulf state's sovereign wealth fund, owns a 12.1 percent
stake, was added as co-lead manager late in the process.
(Additional reporting by David French in Dubai and Nevzat
Devranoglu in Istanbul; Editing by Andrew Torchia)