The Islamic finance industry experienced a rapid asset increase in 2024, mainly from growth in banking assets and sukuk owing to higher foreign currency-denominated issuances. S&P Global Ratings expects this growth to continue in 2025 barring any significant macroeconomic or intrinsic disruption.

We have recently revised our oil price assumption to $65 per barrel for the remainder of 2025 and $70 per barrel from 2026. This will likely continue to support some growth in most core Islamic economies. Simultaneously, financing needs driven by economic transformation programs will remain high, and the inherent preference for Islamic finance will persist. As a result, despite growing uncertainty, we expect the Islamic finance industry to grow in 2025.

However, a further decline in oil prices could reduce the growth prospects for core Islamic finance economies and markets. In addition, adopting Sharia Standard 62 could disrupt the sukuk market from 2026 by potentially reclassifying the instruments from debt-like to equity-like. But the extent of this will depend on whether the standard is approved, its content, and when it will be implemented. If Standard 62 is adopted as proposed, we anticipate the industry could become more fragmented and less attractive to investors and issuers due to higher sukuk pricing for issuers and fewer fixed-income investors.

Strong But Concentrated Growth

In 2024, the Islamic finance industry's total assets increased by 10.6% compared with 2023, supported by growth in banking assets and the sukuk industry (see chart 1).

Chart 1

Banking assets account for more than half of this increase

Islamic banking assets contributed 60% of industry growth in 2024 compared with 54% in 2023. The Gulf Cooperation Council (GCC) accounted for 81% of this growth, with Saudi Arabia alone responsible for two thirds of it. This strong performance results from opportunities created by the Saudi government's Vision 2030 program and the deep integration of the Islamic banking industry in Saudi Arabia, which represented about three-quarters of banking system assets at year-end 2024. Bahrain also experienced significant Islamic finance industry growth, particularly due to Ahli United Bank's (BBB+/Stable/--) conversion from conventional to Islamic banking. The United Arab Emirates (UAE) also contributed to this growth, thanks to the non-oil economy's strong performance. Elsewhere, we have observed some growth in other countries, particularly in Malaysia and Turkey (see chart 2).

Chart 2

We expect economic growth in Saudi Arabia and the UAE will continue supporting Islamic banking asset expansion in 2025, barring any significant disruptions from global trade tensions or a further decline in oil prices. Saudi Arabia's Vision 2030 will continue to translate into significant banking system growth, provided it attracts sufficient refinancing sources, including sukuk issuances from the international capital market. In the UAE, the non-oil economy's performance, along with capital expenditure needs across various sectors will further support financing requirements and sukuk issuances in 2025, assuming current market volatility does not have a major impact. In other GCC countries, we expect growth to continue thanks to reforms in Oman, Bahrain, and Kuwait, as well as anticipated increases in gas production in Qatar.

In Asia-Pacific, we expect the Islamic banking industry to grow by high single digits over the next couple of years. Robust demand for Islamic products and services in Malaysia and significant market potential in Indonesia, Bangladesh, and Pakistan support this trend. Nonetheless, we expect Malaysia to continue controlling the majority of Asia-Pacific's banking industry. The financing growth of Islamic banks will continue to outshine conventional banks' credit growth, facilitating market share gains. However, this growth might be somewhat tempered by local currency volatility, which is also a concern for Türkiye and Egypt. We expect local currency growth in these countries to continue, but overall performance will depend on that of their respective currencies. Although Türkiye's contribution to Islamic banking growth in 2024 was modest in absolute terms, it ranked as one of the largest contributor to the industry's growth in relative terms.

Outstanding sukuk issuance crossed the $1 trillion mark

Global sukuk issuance is likely to reach about $190 billion-$200 billion in 2025, assuming current market volatility does not have a major impact, with foreign currency-denominated issuance contributing $70 billion-$80 billion. In 2024, total sukuk issuance declined slightly to $193.4 billion from $197.8 billion in 2023. However, a notable difference was the 29% rise in foreign currency issuance to $72.7 billion as of Dec. 31, 2024 (see chart 3).

Chart 3

The main contributors to this increase were issuers from GCC countries led by Saudi Arabia, Malaysia, and Indonesia (see chart 4).

Chart 4

We expect foreign currency-denominated issuance to remain elevated in 2025, provided there are no major disruptions due to the current volatility in global capital markets. Many issuers sought to benefit from the improving global liquidity conditions in 2024, with major central banks easing their monetary policy. As it stands, we anticipate the Federal Reserve will lower its policy interest rate by just 25 basis points this year but widening spreads may result in higher overall financing costs. However, this is unlikely to significantly hinder the sukuk market's performance since it is primarily driven by high financing needs in core countries, pushing issuers to seize available market opportunities. A significant change in macroeconomic conditions, such as materially lower oil prices or increased geopolitical risks, could lead to a decrease in issuance volume.

Residential mortgage-backed securities could benefit Saudi Arabia's sukuk market. At year-end 2024, banks were sitting on more than $180 billion in predominantly fixed-rate mortgages that were financed using sources--primarily domestic deposits--with short-term contractual maturities (see chart 5). While we note the behavioral maturity of these deposits is much longer than their contractual maturity, mismatches are still high.

Chart 5

As interest rates decline, banks will be able to resell these loans in the secondary market without incurring losses. A key hurdle remains investor confidence regarding the capacity of banks to foreclose on mortgages in the event of a default. A stronger track record could help kickstart issuances in this segment. In the meantime, banks may rely on backup coverage to cater for the lack of asset foreclosure, provided Sharia scholars approve this. A residential mortgage-backed sukuk market in Saudi Arabia, denominated in riyals or U.S. dollars to leverage the credible peg between the two currencies, could also act as a catalyst for similar movement in the GCC region.

The takaful and fund industries play a small but an important role

Although their contribution to the industry is small, we expect the asset base in the takaful and fund sectors will continue to grow. We expect takaful to expand annually by 10%-15%, supported by ongoing business growth and increasing insurance penetration. Investment returns may be volatile in 2025, but we still expect some growth in the fund industry given the dominance of money market and sukuk funds followed by equity funds. The industry could also benefit from stronger disclosure in the fund industry since we are still using estimates to assess its performance.

Overall, we think the industry is likely to experience 9%-10% growth in 2025. Its performance in 2026 will depend on whether Standard 62 is adopted, and if so, its impact on sukuk issuance volumes. We continue to exclude Iran from our calculations due to the lack of disclosure and volatility in the country's exchange rate.

Standard 62 Is Driving Preemptive Market Activity

In a recent public hearing, the Accounting and Auditing Organization for Islamic Financial Institutions (AAOIFI) announced it will likely give issuers more time to implement Sharia Standard 62. Issuers will likely have between one and three years to implement the new requirements, depending on AAOIFI's final decision. The standard is supposed to be approved this year, but it's still not clear whether AAOIFI will consider the significant concerns raised by market participants, such as effectively transferring the ownership of underlying assets.

We still think a retroactive application of the standard to existing sukuk is unlikely since it would be subject to investor consent. At the same time, we consider sukuk issuers who are already under financial strain may use the standard to restructure their existing sukuk on the grounds that they do not comply with the new requirements. However, this risk should be mitigated by the fact that a sukuk's legal documents generally include clauses that are designed to prevent the issuer from reneging on its contractual obligations based on noncompliance with Sharia law. Therefore, although we do not currently expect a significant number of sukuk restructurings once the standard is adopted, this could change depending on its final terms.

In our view, adopting the standard is likely to result in a rush to market before it comes into force. Hereafter, we think investor and issuer appetites will wane, particularly if Standard 62 is adopted as proposed. Some supporters of the new standard argue that the market has lived through various changes, such as when Standard 59 was approved--but this situation is different, in our view. Standard 59 formalized a requirement already in place, whereas the proposed Standard 62 could change the nature of the instrument from debt-like to equity-like. This could result in higher sukuk prices for issuers and fewer fixed-income investors. Also, it is important to note the real transfer of sukuk underlying assets may not be straightforward for sovereign issuers.

One of the key points the market is asking AAOIFI to clarify in the final Standard 62 is whether usufruct can be used as the underlying asset. S&P Global Ratings doesn't comment on Sharia compliance, but we factor in the potential implications of Sharia requirements on the nature of contractual obligations in sukuk transactions. In certain structures, we have observed an increased risk that an issuer may disregard specific contractual obligations, such as the obligation to subscribe to and renew the hedging mechanism in sukuk that uses equity instruments as underlying assets. This could raise concerns among Sharia scholars--whether internal or external to the transaction--about the strategy's compliance to Sharia law. Consequently, this may create uncertainty over how the transaction could unwind, ultimately increasing risk for investors.

Simplifying Islamic Finance Structures Could Boost Competitiveness

The Islamic finance industry is concentrated, and its structure has barely changed over the past decade. At year-end 2024, the GCC represented about 70% of the industry's banking assets, with Malaysia accounting for about 12% (see chart 6). These numbers have barely moved in a decade. Although we have seen some interest in Islamic finance across several countries over the past decade, the industry has not made significant inroads.

In our view, the industry could unlock its full potential through stronger regulatory action to ensure Islamic finance is not disadvantaged compared with conventional finance. Simplifying the structures used, reducing complexity, and leveraging fintech and technological solutions could enhance the end-user experience, making it more competitive with conventional finance. Positively, Islamic finance continues to attract interest, and some countries are experiencing growth with the support of multilateral development institutions.

Chart 6

Sustainable Issuances Present A Medium-Term Opportunity

We expect sustainable sukuk issuance to hover between $10.0 billion-$12.0 billion in 2025 compared with $11.9 billion in 2024 and $11.4 billion in 2023 (see chart 7). Issuance volumes will be supported by the International Capital Market Association's Islamic finance guidelines in April 2024, along with other regulatory initiatives. The guidelines allow for a wide variety of assets to be used as sukuk underlying assets, as long as the proceeds are invested in green or social assets and projects. This flexibility aims to address the shortage of sustainable assets in Islamic finance; however, as the industry continues to expand, we may see these requirements tightening.

Demand for sustainable sukuk continues to grow as well. In 2024, Saudi Arabian issuers contributed the highest share of total sustainable sukuk issuance at 38%, underpinned primarily by issuances from Saudi banks. Indonesia was the second-largest market thanks to sovereign issuance. Although the volume of sustainable sukuk issuance in the UAE fell by 60% in 2024 compared to 2023 when figures were boosted by Dubai hosting the climate change conference COP28, the country still contributed 15% of the overall issuance volume.

We anticipate an increase in sustainable sukuk issuance when GCC issuers implement climate transition plans more quickly and make progress toward renewable energy targets, particularly if regulators offer incentives for sustainable issuance. The drop in oil prices could further facilitate this transition, although we think GCC sovereigns possess competitive advantages, such as low extraction costs and the capacity to increase production capacity. We also expect GCC banks to continue supporting their respective government's climate transition goals. Finally, we expect the sustainable sukuk market to continue attracting interest from more countries as they seek to access diverse funding sources to finance their sustainability agenda.

Chart 7

Related Research

• Sukuk Brief: More Time To Adopt AAOIFI Standard 62, Feb. 4, 2025
• Sukuk Market: Strong Performance Set To Continue In 2025, Jan. 13, 2025
• Islamic Finance 2024-2025: Resilient Growth Anticipated Despite Missed Opportunities, April 29, 2024