Moody's Global Head for Islamic finance Khalid Howladar said on Tuesday the Malaysian government's strategy was to increase the proportion of Islamic financing to 40% of total domestic financing by 2020 from 24% at the end of May 2014.
"We expect Malaysia's strong growth trends to continue," Khalid said. "As a result of rapid asset growth, Islamic banks are expected to become an increasing contributor to sukuk volumes."
Moody's assistant vice president and analyst Simon Chen pointed out Islamic banking assets in Malaysia totalled RM434bil at end-May 2014, representing 21% of total banking-system assets versus 16% at end-2009.
"In addition, the 20% compound annual growth in Islamic financings since 2009 has steadily outpaced the 16% growth in Islamic deposits, creating a funding gap.
"And, when combined with the fact that over 95% of the banks' funding mix is composed of short-term deposit funding, the banks are in need of increasing amounts of stable long-term funding - sukuk issuances can provide such funding," Chen said.
Moody's analysis was contained in its just-released report titled "Malaysian Islamic banks: Asset growth, funding and Basel III capital needs drive increasing Sukuk volumes" and was co-authored by Chen and Shaoyong Beh, an associate analyst.
The report said Sukuk issuances were expected to rise, if Islamic banks maintained their current risk-adjusted profitability to support their internal capital growth of 8% per annum, and risk-weighted assets grow at 11% per annum.
Hence, the banks would need an additional RM2.5bil in new equity or capital qualifying securities such as Basel III compliant Sukuk by 2016 to maintain capital ratios at current levels.
According to the report, the RM2.5bil amount is estimated to increase to RM8.7bil by 2020.
The Moody's report expected Islamic banks to continue to raise new capital, such as from Sukuk issuance.
The new capital would have to be raised, ahead of future business growth, balance their capital structure with a mix of equity and capital securities, and at the same time, build loss-absorbing buffers above the regulatory minimum capital requirements.