Sept. 28 (Bloomberg) -- Malaysia's state investment arm raised $750 million in Southeast Asia's biggest sale of Islamic convertible bonds, seeking to cut its stake in a telephone company and support the nation's bid to become a financing hub.

Khazanah Nasional Bhd. expanded the sale of five-year debt from an initial $500 million plan to meet demand, the company said in an e-mailed statement today. Holders of the bonds will be able to exchange them into shares of Telekom Malaysia Bhd., which is 40 percent owned by Khazanah.

Malaysia, where 60 percent of the 27 million population are Muslim, is the world's biggest issuer of Islamic debt and wants to attract more investors from the Middle East. Investors in the bonds will receive annual payments from Telekom Malaysia dividends equivalent to 1.2 percent of the debt's face value, complying with Shariah law's ban on interest payments.

``Malaysia is trying to build up enough Islamic papers'' to attract investors from the Middle East, said Scott Lim, who helps manage about $272 million as chief investment officer at CMS Dresdner Asset Management Sdn. in Kuala Lumpur. ``It's also a good strategy to divest its shares without disrupting the market.''

The sale will help Khazanah, with stakes in about 40 companies worth more than 150 billion ringgit ($40.7 billion) market value, trim its holdings and raise working capital.

Malaysia is competing with Bahrain and Singapore to be an Islamic finance hub. A record $8.8 billion of Islamic bonds have been sold worldwide so far this year, surpassing the $7.6 billion in 2005, according to data compiled by Bloomberg.

Dividend Payments

Khazanah's bonds meet the Islamic principle of not paying interest because investors will receive payments funded by the dividend income received from Telekom, Malaysia's biggest telephone company. Islamic bonds typically allow for bondholders to share in the profits or income stream from a pool of assets.

The bonds will yield 5.07 percent if held to maturity. They will be convertible into shares of Telekom currently held by Khazanah at a 19 percent premium over the one-day volume weighted average price of Telekom shares on Sept. 27. Telekom shares closed at 9.15 ringgit on Sept. 27.

Khazanah last sold $414.5 million of five-year conventional bonds in December 2004, convertible into shares of PLUS Expressways Bhd., the country's biggest toll-road operator.

`New Benchmark'

``We have set a new benchmark as the largest exchangeable instrument to be issued out of Asia ex-Japan in the year to date and the largest ever out of Malaysia,'' Khazanah Managing Director Azman Mokhtar said. The sale is also part of a plan to ``divest progressively stakes in our core holdings to increase market liquidity in an orderly fashion,'' he said.

Khazanah has been overhauling companies in which it owns stakes, such as Telekom and Tenaga Nasional Bhd., to help improve profitability, investor returns and prepare for greater competition. It also pushed them to invest overseas to reap better returns.

Khazanah's bond sale attracted six times the amount initially offered, reflecting investors' ``overwhelming response,'' the statement said.

Companies in the Middle East have sold convertible Islamic bonds, including Abu Dhabi, United Arab Emirates-based Aabar Petroleum Investment Co.'s sale of $460 million of debt in June.

CIMB Bhd., HSBC Holdings Plc and UBS AG arranged the sale, following presentations to investors in the Middle East, including Kuwait and Saudi Arabia, on Sept. 19 and 20.

To contact the reporter on this story: Chan Tien Hin in Kuala Lumpur at thchan@bloomberg.net; David Yong in Kuala Lumpur at dyong@bloomberg.net; Shanthy Nambiar in Bangkok at

Last Updated: September 27, 2006 22:33 EDT