How Green and Sustainability Sukuk Can Finance a Sustainable Future

Sukuk are Islamic financial instruments that are similar to bonds, but with some key differences. Unlike conventional bonds, sukuk do not involve interest payments, but rather represent a proportional ownership of an underlying asset or project. Sukuk holders are entitled to a share of the profits generated by the asset or project, as well as the principal amount at maturity.

Sukuk are widely used by governments and corporates and beyond to raise funds for various purposes. However, in recent years, there has been a growing interest in using sukuk to finance environmental and social projects that contribute to the United Nations Sustainable Development Goals (SDGs). These sukuk are known as green and sustainability sukuk, and they are part of the broader market for environmental, social and governance (ESG) bonds and sukuk.

In this blog post, we will explore the following aspects of green and sustainability sukuk:

What are green and sustainability sukuk and how do they differ from conventional sukuk?
What are the benefits and challenges of issuing and investing in green and sustainability sukuk?
What are the latest trends and developments in the global green and sustainability sukuk market?
What are the best practices and recommendations for promoting and growing the green and sustainability sukuk market?

By the end of this post, you will have a comprehensive understanding of this innovative and promising segment of the Islamic finance industry, and how it can help finance a sustainable future for the world.

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What are green and sustainability sukuk?

Green and sustainability sukuk are sukuk that are issued to finance or refinance projects or activities that have positive environmental and/or social impacts. They are aligned with internationally accepted principles and standards for green and sustainability bonds and sukuk, such as the Green Bond Principles, the Social Bond Principles, the Sustainability Bond Guidelines, and the ASEAN Green Bond Standards.

Green sukuk are sukuk that are exclusively used to finance or refinance green projects or activities, such as renewable energy, energy efficiency, clean transportation, green buildings, pollution prevention and control, and climate change adaptation.

Sustainability sukuk are sukuk that are used to finance or refinance a combination of green and social projects or activities, such as affordable housing, health care, education, water and sanitation, and gender equality.

Sustainability-linked sukuk are sukuk that are linked to the achievement of predefined sustainability performance targets by the issuer, such as reducing greenhouse gas emissions, improving water efficiency, or increasing the share of women in leadership positions. The sukuk may offer a financial incentive to the issuer, such as a lower coupon rate, if the targets are met, or a penalty, such as a higher coupon rate, if the targets are missed.

Green and sustainability sukuk issuers are required to disclose the eligible projects or activities that will be financed or refinanced by the sukuk proceeds, as well as the criteria and methodology for selecting and evaluating them. They are also required to report on the allocation and impact of the sukuk proceeds on a regular basis, and to obtain an external review or verification of their compliance with the relevant principles and standards.

What are the benefits and challenges of issuing and investing in green and sustainability sukuk?

Issuing and investing in green and sustainability sukuk can offer various benefits for both issuers and investors, as well as for the society and the environment. Some of the benefits include:

Accessing new and diverse sources of funding and capital. Green and sustainability sukuk can attract investors who are looking for ethical, responsible, and impact-oriented investments, as well as those who are seeking diversification and risk mitigation in their portfolios. Green and sustainability sukuk can also tap into the growing pool of Islamic finance assets.
Enhancing reputation and credibility. Green and sustainability sukuk can demonstrate the issuer’s commitment and contribution to the SDGs and the global agenda for sustainable development. They can also enhance the issuer’s transparency and accountability, as well as its stakeholder engagement and communication. Green and sustainability sukuk can also help the issuer to align its strategy and operations with the expectations and preferences of its customers, employees, regulators, and other stakeholders.
Reducing financing costs and improving financial performance. Green and sustainability sukuk can potentially offer lower financing costs than conventional sukuk, as they may benefit from a `greenium’ or a price premium due to the higher demand and lower supply of green and sustainability instruments. They may also offer financial incentives or rewards for achieving sustainability performance targets, as in the case of sustainability-linked sukuk. Moreover, green and sustainability sukuk can help the issuer to improve its operational efficiency, resilience, and profitability, as well as to reduce its exposure to environmental and social risks.
Creating positive environmental and social impacts. Green and sustainability sukuk can help to mobilize capital for projects and activities that address some of the most pressing environmental and social challenges facing the world, such as climate change, biodiversity loss, poverty, inequality, and health. They can also help to measure and report on the environmental and social outcomes and impacts of these projects and activities, and to ensure that they are aligned with the best practices and standards for sustainability.

However, issuing and investing in green and sustainability sukuk also entail some challenges and barriers, such as:

Lack of awareness and understanding. Green and sustainability sukuk are still relatively new and unfamiliar to many issuers and investors, especially in emerging markets where Islamic finance is prevalent. There is a need for more education and awareness campaigns to promote the concept and benefits of green and sustainability sukuk, and to address the misconceptions and myths that may hinder their adoption and growth.
Lack of regulation and standardization. Green and sustainability sukuk are subject to different regulatory frameworks and standards across different jurisdictions and regions, which may create confusion and inconsistency for issuers and investors. There is a need for more harmonization and coordination among regulators and standard-setters to develop and implement common and consistent rules and guidelines for green and sustainability sukuk, and to ensure their compliance and enforcement.
Lack of data and disclosure. Green and sustainability sukuk require issuers to disclose and report on the use and impact of the sukuk proceeds, as well as their sustainability performance and targets. However, many issuers may lack the data, systems, and capabilities to collect, monitor, and disclose this information in a reliable and comparable manner. There is a need for more data and disclosure platforms and tools to facilitate and enhance the transparency and accountability of green and sustainability sukuk.
Lack of supply and demand. Green and sustainability sukuk still represent a small fraction of the global sukuk and ESG bond markets, which may limit their availability and liquidity for issuers and investors. There is a need for more incentives and support from policymakers and industry players to encourage and enable more issuers and investors to participate in the green and sustainability sukuk market, and to diversify and expand its offerings and segments.

What are the latest trends and developments in the global green and sustainability sukuk market?

The global green and sustainability sukuk market has been growing rapidly and steadily since its inception in 2017, when the first green sukuk was issued by Tadau Energy, a Malaysian renewable energy company. According to LSEG Data & Analytics, the cumulative issuance of green and sustainability sukuk reached $36.4 billion by the end of the third quarter of 2023, following a record issuance of $10.1 billion in the first nine months of 2023.

The growth of the green and sustainability sukuk market has been driven by several factors, such as:

The increasing awareness and demand for ESG investments, especially in the wake of the Covid-19 pandemic, which has highlighted the importance of resilience and sustainability for businesses and societies.
The rising commitment and action from governments and corporates to address the climate crisis and achieve the SDGs, as well as the global agenda for sustainable development, such as the Paris Agreement and the COP28 conference.
The innovation and collaboration among various stakeholders in the Islamic finance and sustainable finance ecosystems, such as regulators, standard-setters, issuers, investors, intermediaries, and service providers, to develop and promote green and sustainability sukuk as viable and attractive financial instruments.

Some of the key trends and developments in the green and sustainability sukuk market include:

The diversification and expansion of the issuer and investor base. Green and sustainability sukuk have been issued by a variety of entities, such as sovereigns, multilateral development banks, financial institutions, corporates, and quasi-sovereigns, across different sectors, such as energy, transport, real estate, banking, and utilities. Green and sustainability sukuk have also attracted a wide range of investors, such as Islamic, conventional, ESG, and impact investors, from different regions and markets, such as Asia, Europe, the Middle East, and Africa.
The emergence and growth of new segments and products. Green and sustainability sukuk have evolved and diversified to include new segments and products, such as sustainability sukuk, sustainability-linked sukuk, transition sukuk, blue sukuk, and nature sukuk, to cater to the different needs and preferences of issuers and investors, and to address the various environmental and social challenges and opportunities.
The development and improvement of the regulatory and standardization framework. Green and sustainability sukuk have been supported and facilitated by the development and improvement of the regulatory and standardization framework, both at the national and international levels. Several countries, such as Malaysia, Indonesia, and the UAE, have issued or updated their guidelines or frameworks for green and sustainability sukuk, aligned with the internationally accepted principles and standards. Several initiatives and collaborations have also been launched to harmonize and coordinate the rules and guidelines for green and sustainability sukuk, and to ensure their compliance and enforcement.

What are the best practices and recommendations for promoting and growing the green and sustainability sukuk market?

Promoting and growing the green and sustainability sukuk market requires a concerted effort from all stakeholders in the Islamic finance and sustainable finance ecosystems. Here are some best practices and recommendations:

Education and Awareness: Increase awareness and understanding of green and sustainability sukuk among issuers, investors, intermediaries, and the public through education and training programs, workshops, seminars, webinars, publications, and media campaigns.
Regulation and Standardization: Develop and implement a comprehensive and consistent regulatory and standardization framework for green and sustainability sukuk, aligned with internationally accepted principles and standards, and tailored to the specific needs and conditions of each jurisdiction and market.
Transparency and Disclosure: Enhance the transparency and disclosure of green and sustainability sukuk by requiring issuers to disclose and report on the use and impact of the sukuk proceeds, their sustainability performance and targets, and their compliance with the relevant principles and standards.
Incentives and Support: Provide incentives and support for issuers and investors of green and sustainability sukuk, such as tax benefits, grants, guarantees, technical assistance, and capacity building, to reduce the costs and risks, and to increase the benefits and returns, of green and sustainability sukuk.
Innovation and Collaboration: Foster innovation and collaboration among various stakeholders in the Islamic finance and sustainable finance ecosystems, to develop and promote new and diverse segments and products of green and sustainability sukuk, and to address the various environmental and social challenges and opportunities.

In conclusion, green and sustainability sukuk represent a promising and innovative solution for financing a sustainable future. They combine the ethical and responsible principles of Islamic finance with the environmental and social objectives of sustainable finance, to create a win-win situation for issuers, investors, and the society and the environment. By following the best practices and recommendations outlined in this blog post, we can help to promote and grow the green and sustainability sukuk market, and to make it a mainstream and impactful segment of the global financial system.

Key Takeaways

To summarize, here are the core concepts of green and sustainability sukuk:

Green and sustainability sukuk are Islamic financial instruments that are used to finance or refinance projects or activities that have positive environmental and/or social impacts.
Green and sustainability sukuk offer various benefits for issuers, investors, and the society and the environment, such as accessing new and diverse sources of funding and capital, enhancing reputation and credibility, reducing financing costs and improving financial performance, and creating positive environmental and social impacts.
Green and sustainability sukuk also entail some challenges and barriers, such as lack of awareness and understanding, lack of regulation and standardization, lack of data and disclosure, and lack of supply and demand.
The global green and sustainability sukuk market has been growing rapidly and steadily, driven by the increasing awareness and demand for ESG investments, the rising commitment and action from governments and corporates to address the climate crisis and achieve the SDGs, and the innovation and collaboration among various stakeholders in the Islamic finance and sustainable finance ecosystems.
Promoting and growing the green and sustainability sukuk market requires a concerted effort from all stakeholders in the Islamic finance and sustainable finance ecosystems, and involves several best practices and recommendations, such as education and awareness, regulation and standardization, transparency and disclosure, incentives and support, and innovation and collaboration.

P.S. What are your thoughts on green and sustainability sukuk? Do you think they can play a significant role in financing a sustainable future? Share your thoughts in the comments section below!

Remember, every step towards sustainable finance is a step towards a sustainable future. Let’s take that step together.

Disclaimer: The views expressed in this blog are not necessarily those of the blog writer and his affiliations and are for informational purposes only.

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