Professional Documents
Culture Documents
1.0 Introduction
In the modern economy, debt market and bonds are an integral part of the financial sector and effectively supplement the funds provided by the banking sector. From the conventional perspective, bonds can be defined as a long-term contract under which a borrower agrees to make payment of interest and principal, on specific dates, to the holders of the bonds. (Brigham, E. C. and Ehrhardt, M. C., Financial Management, 11th ed., 2005)
According to Longman, bonds are actually certificates or documents of debt issued by a government or an organization for an amount of money they borrow from the bondholders, promising them that it will pay back the money it has borrowed, usually with interest. (Longman, Business English Dictionary, 2000)
1.1
Introduction of Sukuk
Sukuk, plural of Sakk means legal instrument, deed or check. Sukuk is the Arabic name for a financial certificate but may also be considered as Shariah-compliant Bonds. Although Sukuk is generally referred to as Islamic bonds, it is better descrived as an asset-based investment, as the investor owns an undivided interest in an underlying tangible asset which is proportionate to his investment.
The claim embodied in Sukuk is not simply a claim to cash flow but an ownership claim. Monies raised by the issuance of the Sukuk notes are used to invest in an underlying asset, a trust is declared over that particular asset and thereby the certificate holder will own a 1
1.2
History of Sukuk
In classical period Islam sakk (sukuk) & ndash; which is cognate with the European root "cheque" (which itself derives from Persian)- meant any document representing a contract or conveyance of rights, obligations or monies done in conformity with the Shariah. Empirical evidence shows that sukuk were a product extensively used during medieval Islam for the transferring of financial obligations originating from trade and other commercial activities.
The essence of sukuk, in the modern Islamic perspective, lies in the concept of asset monetization - the so called securitization - that is achieved through the process of issuance of sukuk (taskeek). Its great potential is in transforming an asset & future cash flow into present cash flow. Sukuk may be issued on existing as well as specific assets that may become available at a future date. (aibim.com)
1.3
2.1
2.1.1
Types of Sukuk
Sukuk can be of many types depending on the type of Islamic modes of financing and trades used in its structuring. The following are the common types of Sukuk:
2.1.1.1
Sukuk Ijarah
This is one of the most common Sukuk issuance types, especially for project finance. Sukuk Ijarah is a leasing structure coupled with a right available to the lessee to purchase the asset at the end of the lease period. The certificates are issued on stand-alone as sets identified on the balance sheet.
The rentals rated of return on these Sukuk can be fixed or floating depending on the agreement. The cash flow from the lease including rental payments and principle repayments are passed through to inventors in the form the lease including rental payments and principle repayments are passed through to investors in the form of coupon and principle payments. The Sukuk Ijarah provides an efficient medium-to-long term mode of financing.
2.1.1.2
Sukuk Mudharabah
This is an agreement made between a party, who provides the capital and another party (an entrepreneur), to enable the entrepreneur to carry out 5
2.1.1.3
Sukuk Musharakah
These are investment Sukuk that represent ownership of Musharakah equity. The structure of musharakah requires that both parties provide financing to the projects. In case of losses, both parties will lose in proportion to the size of their investment. Sukuk Musharakah are used to mobilize funds to establish new projects, or to develop an existing one, or to finance a business activity on the basis of partnership contrats.
2.1.1.4
Sukuk Istisna
This type of Sukuk has been used for the advance of funding for real estate development, major industrial projects or latge items of equipment such as turbines, power plants, ships or aircraft (construction / manufacturing financing) (Mohamed Z., Azmi & Associate, 2010).
2.1.2
Types of Bonds
Bonds can be of many types depending on the type of conventional bonds modes of financing and trades used in its structuring. The following are the common types of Bonds: 2.1.2.1 6 Zero-coupon Bond
2.1.2.2
Government Bond
A debt security issued by a government to support government spending, most often issued in the country's domestic currency. Government debt is money owed by any level of government and is backed by the full faith of the government. Federal government bonds in the United States include: the savings bond, Treasury bond, Treasury inflation-protected securities (TIPS), and others. Before investing in government bonds, investors need to assess several risks associated with the country such as: country risk, political risk, inflation risk, and interest rate risk.
Lending to a national government in the country's own sovereign currency, government bonds, are free of credit risk, because the government can raise taxes or simply print more money to redeem the bond at maturity. But this does not mean risk-free. (http://www.investopedia.com) 7
A debt security issued by a corporation and sold to investors. The backing for the bond is usually the payment ability of the company, which is typically money to be earned from future operations. In some cases, the company's physical assets may be used as collateral for bonds.
Corporate bonds are considered higher risk than government bonds. As a result, interest rates are almost always higher, even for top-flight credit quality companies. (http://www.investopedia.com)
2.1.2.4
Municipal Bond
Municipal bonds (also known as munis) are attractive to many investors because the interest income is exempt from federal income tax and in many cases, state and local taxes as well. In addition, munis often represent investments in state and local government projects that have an impact on our daily lives, including schools, highways, hospitals, housing, sewer systems and other important public projects. (http://www.investinginbonds.com/learnmore)
2.2
2.2.1
Principles of Sukuk
Under `uqud mu`awadhat or contracts of exchange (such as bai` bithaman ajil, murabahah, istisna` and ijarah), an asset, whether tangible or intangible, must be made available for sukuk to be issued subject to the following: The underlying asset and its use must comply with the requirements of An encumbered asset, such as an asset charged to a financial institution,
Shariah. or an asset that is jointly-owned with another party, can only be used as underlying asset provided the issuer has obtained consent from the chargee or joint-owner. Where receivables are used as the underlying asset, they must be mustaqir (established and certain) and transacted on cash basis (on spot).
2.2.1.2
Asset pricing
Sukuk under`uqud mu`awadhat involves the sale and purchase of underlying assets. When the investors purchase the underlying assets, the purchase price must comply with the following SAC pricing guidelines: The purchase price should not exceed 1.51 times of the market value of In cases where the market value of a particular asset could not be
the asset. ascertained, a fair value or any other value must be applied.
2.2.1.3
Ibra (Rebate)
provided that such provision shall not be part of the pricing section. 9
to sukuk BBA, murabahah and istisna` which may be benchmarked to the prevailing market rates. 2.2.1.4 Ta`widh (Compensation)
only in the event of delay in payment. However, under `uqud ishtirak, ta`widh is limited to the failure of the issuer/obligor to distribute the realised profit on time. Ta`widh does not apply to expected profit. The rate of ta`widh should be as prescribed by the SAC from time to time and is available on the Islamic Capital Market section of the SC website.
2.2.2
Principles of Bonds
2.2.2.1 bill.
completed within the scope and within the budget as identified in the bond
2.2.2.2
management costs and inflationary increases should be reserved in a separate line item in each individual capital improvement projects budget. The 5% will be held in reserve, and should not be included in the dollar amounts available for design, construction, contingencies, or equipment.
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2.2.2.4 sequence.
2.2.2.5
description and cost estimate for each bond project. As needed, each campus should consult with the Office of State Construction in the North Carolina Department of Administration to define the project scope and estimated cost. Information used to develop the official scope and cost estimate should be consistent with the UNC Capital Study.
2.2.2.6
President, should prepare a spending plan to fully implement the bond bill package. At the appropriate time and after consultation with the Board of Governors, modifications can be considered to transfer savings achieved from projects expedited in the early years of the plan to projects planned for the out-years to mitigate inflationary impacts or other necessary changes.
2.2.2.7
supplement funds appropriated in the bond bill, funds authorized in the bond bill should be spent first, unless this is found to be inconsistent with other state policies or procedures.
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2.2.2.8
Renovations and Cost Overruns, will be placed in a reserve in the Board of Governors capital improvement budget code. The Board of Governors will determine use of these reserve funds, subject to approval of the Director of the Budget.
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Beside Sukuk is followed by Islamic finance terms and Bond is followed by conventional finance term, there have many other different in order to show sukuk is not only term
Sukuk Bonds Sukuk represent ownership stake in an A bond represents the issuers pure debt. underlying asset. Bonds are securities in the form of a debt Sukuk are financial fixed income certificates that will be paid back before a certain date, that are permissible within the provisions of termed the date of maturity, in addition to Islamic Sharia law as they are raised on interest [on this debt]. In short, a bond is a trading in, or construction of, specific and debt security in which borrowed money is identifiable assets [rather than being repaid along with interest at a fixed rate. interest based like bonds]. The income from Sukuk is related to the original legal contract that governs the Bonds also include a fixed rate of interest relationship between the Sukuk provider regardless of loss or gain and the customer [owner of the Sukuk]. *Sources: http://www.asharq-e.com/news.
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The global Islamic financial sector has witnessed an encouraging growth over the last decade and is currently estimated to be at around US$1trillion. It is predicted to be the worlds fastestgrowing financial sector for the coming years with an estimated global potential of US$4trillion. Sukuks have turned out to be an important driver to raise finance under the Islamic mode of financing. In todays business practice, the term Sukuk means a claim similar to that represented by a trust certificate. In essence, the Sukuk is a financial instrument that sits above a Shariah-compliant underlying structure which generates an income for the holder of the instrument. Islamic finance has many qualities that could lend themselves to securitization as a means of raising funds. Shariah compliant tools must have asset-driven returns for example, which is a notable feature of securitization. (http://www.sukuk.me/news/articles/73/Globalsukuk-markets.html)
4.1
The growing role of Islamic finance in mobilizing and channeling funds to productive investment activities across borders contributes to more efficient allocation of funds across borders and facilitates international trade and investment. Greater diversification of risk also contributes towards promoting international financial stability. The more recent development in Islamic finance is the growing significance of the Sukuk market to become an increasingly important component of the Islamic financial system. Five major trends are having a significant bearing on the future development of the global Sukuk market.
Firstly, the bond market is now becoming key to meeting the funding requirements for both 14
Secondly, while there has been growing interest in the issuance of Sukuk by corporations, sovereigns and MNCs, the demand for Sukuk significantly exceeds the supply. Today, the global Sukuk market, denominated in international currencies, is estimated to exceed US$50 billion. Although the size of the market is modest by global standards, the Sukuk market is experiencing remarkable growth, increasing at an average rate of growth of 40% a year. The significant demand for Sukuk has also been spurred by the high levels of surplus savings and reserves in Asia and in the Middle East. This has been reinforced by increased liquidity in the international financial system in search of higher returns and greater diversification of risk. Since the issuance of the first sovereign global Islamic Sukuk by the government of Malaysia in 2002, there has been a series of other issues by the governments of the United Arab Emirates, Qatar, Bahrain and Pakistan. An increased number of multilateral agencies have also issued Sukuk to finance development projects. In addition, both government agencies and the corporate sector have considered the Sukuk market as an attractive financing instrument.
Thirdly, there are a great number of global players such as investment banks, Islamic banks and securities firms that are involved in the issuance of Sukuk in the international financial markets. A large number of western banks are also providing Islamic financial services 15
Fourthly, the established international financial centers have also shown interest in promoting the development of the Sukuk market including enacting the appropriate legislative provisions. These developments would augur well for the development of the Sukuk market.
Finally, the regulatory and supervisory paradigm continues to evolve. Indeed, the recent decade has witnessed significant global shifts in the approach to regulation and supervision across many countries. In addition, the harmonization of standards and practices is also important. The establishment of the international standard setting organizations, such as the Islamic Financial Services Board (IFSB) and the Accounting and Auditing Organization for Islamic Financial Institutions (AAOIFI), to formulate appropriate prudential and accounting standards that not only facilitate the process of harmonization but also contribute to the strengthening of the Islamic financial system. IFSB has already formulated the prudential treatment for Sukuk investment by the Islamic financial institutions as stipulated in the capital adequacy standards.
The Islamic finance industry is growth rapidly with the current positioning which, in Middle East and North Africa have 204 million Muslims from GCC countries like, UAE, Iran and Egypt where this is 13% of total Muslim population in the world. GCC countries (excluding Oman) have 17 commercial banks offering Islamic banking and the AUM is USD100 billion.
In South East Asia have 16 million Muslims in Malaysia and 195 million Muslims in Indonesia and 13% of total Muslim population in the world. Malaysia has AUM USD31 billion
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Have also 439 million Muslims in India, Pakistan and Bangladesh and 16 million Muslims in United Kindom, United State, Germany and France where it accounted for 41% of the total Muslim population in the world. (Overview of Islamic Finance, Grail Research, 2007.)
This can be seen comparison of the sukuk market in Malaysia ad the biggest issuer in the world and sukuk market in the United Kindom to see how far the development of the global sukuk market.
4.1.1
Significant progress has been achieved in the development of the Malaysian Sukuk market. In 2007, Malaysia accounted for about two-thirds of the global Sukuk outstanding, amounting to about US$47 billion. Malaysia not only represents the largest Sukuk market in terms of outstanding size, but also in terms of number of issuance. In developing the Sukuk market, Malaysia provides a total solution for Sukuk activities by offering a complete Sukuk issuance and trading platform, supported by four elements: a wide range of Islamic instruments, strong legal and regulatory infrastructure, sound Shariah governance framework and talent supply. These elements are also further strengthened by Malaysias comprehensive Islamic financial system with all the key components of the financial system comprising the Islamic banking, Takaful, Islamic money and capital markets that are now at an advanced stage of development. These different parts of the Islamic financial
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4.1.2
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The potential demand is currently still difficult to assess due to the fact that the market is still relatively young and the total outstanding amount of Sukuk is small compared to the overall bond market. However, where a few years ago the majority of respondents would not have heard of Sukuk, we found that in excess of 85% of the respondents have heard about the instrument and in excess of 50% has invested in them. (European Sukuk Issue, 2010)
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The market for Sukuk2 has grown tremendously in recent years, from less than $8 billion in 2003 to $50 billion by mid-2007. Sukuk provide sovereign governments and corporations with access to the huge and growing Islamic liquidity pool, in addition to the conventional investor base. The structure of Sukuk is now well established in several corporate and sovereign/supranational issues in the international bond markets. Sukuk are in many aspects similar to conventional Eurobonds. Sukuk are also considered to serve as security instruments that provide a predictable level of return (fixed or floating); they are traded in the secondary market albeit less than conventional bonds; they are assessed and rated by international rating agencies; and are mostly cleared under Euroclear (listed in Luxemburg). The convergence between Islamic and conventional finance, 23
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1. 2. 3.
E&Y Islamic Funds and Investments Report 2009 Cakir S. & Raei F., IMF Working Paper, 2007 European Sukuk Issue, 2010 4. http://www.bloomberg.com/news/2011-10-07/malaysian-islamic-banking-assets-rise-15percent-to-123-billion.html 5. http://cms.sb24.com/modules/news/EnglishNews/news10.html?uri=/en/index.html 6. http://cms.sb24.com/modules/news/EnglishNews/news10.html?uri=/en/index.html 7. http://www.mifmonthly.com 8. http://www.sc.com.my 9. Ramasamy R., Munisamy S., M. Helmi M. H., Global Journal of Management and Business Research, 2011 10.Tariq A. A., Managing Financial Risks Of Sukuk Structures, 2004 11.Jabeen Z. & Javed M. T., Sukuk-Structures An Analysis Of Risk-Reward Sharing And Wealth Circulation, 2007
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Qtr
No.
Issuer
Shariah Principle
Q1 2010
1. 2.
Haluan Gigih Sdn Bhd Lafarge Malayan Cement Berhad Cagamas Berhad
Q2 2010
1.
2. 3. 4. 5. 6. 7. Q3 2010 1. 2.
CJ Capital Sdn Bhd Kencana Petroleum Berhad LBS Bina Group Berhad Maju Expressway Sdn Bhd New Pantai Expressway Sdn Bhd Padiberas Nasional Berhad AmIslamic Bank Berhad Bank Pembangunan Malaysia Berhad
Musharakah Mudharabah Mudharabah, Murabahah Musharakah Bai Bithaman Ajil Musharakah Musharakah Tawarruq
3. 4.
Ijarah Ijarah
4,200.00 3,100.00
* Combined issue size limit of RM2.0 billion with Conventional Commercial Papers Programme Q4 2010 1. 2. 3. 4. 5. Aman Sukuk Berhad Alluvium Berhad Gamuda Berhad KNM Group Berhad Konsortium Lebuhraya Utara-Timur (KL) Sdn Bhd 6. 7. 8. Point Zone (M) Sdn Bhd Senai-Desaru Expressway Berhad TTM Sukuk Berhad Murabahah Ijarah Commodity Murabahah 500.00 5,580.00 750.00 Musharakah Ijarah Musyarakah, Murabahah Musharakah Musharakah 10,000.00 615.00 800.00 1,500.00 820.00
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CBs
5.11 6.10 1.60 1.60 5.10 1.00 2.20 1.50 0.60 24.81 63.48 39.10%
Sukuks
13.20 3.17 6.57 2.00 2.50 1.70 4.76 1.70 2.15 37.75 70.47 53.60%
Con. MTN
9.30 4.33 2.60 1.70 3.00 20.93 45.48 46.00%
Islamic MTN
8.85 8.28 3.68 2.00 8.00 5.60 5.00 4.77 4.59 0.90 3.65 3.60 58.91 89.40 65.90%
Total
18.15 13.20 11.45 10.25 9.11 8.60 8.00 7.30 6.36 5.93 5.10 5.00 4.77 4.59 4.50 5.35 3.90 3.65 3.60 3.60 142.40 294.65 48.30%
Source: Bank Negara Malaysia Fully Automated System for Issuing/Tendering (FAST).
Types of Sukuk Zero coupon Sukuk Description of Sukuk structure Istisna, Murabahah debt certificates non-tradable Rate of return (Interest rate risk)
Credit Risk Unique basis of credit risks exist, see, Khan and Ahmed
FX risk If all other conditions are similar, FX risk will be the same for all
Price risk Price risk relates to the prices of the underlying commodities
Very high due to fixed rate, remains for the entire maturity of
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(2001) Securitized Ijara, certificate holder owns part of asset or usufructs and earns fixed rent tradable Securitized Ijara, certificate holder owns part of asset or usufructs and earns floating rent indexed to market benchmark such as LIBOR tradable Securitized pool of assets; debts must not be more than 49%, floating rate possibility exists tradable Medium term redeemable musharakah certificate based on diminishing musharakah tradable as well as
the issue
Default on rent payment, fixed rate makes credit risk more serious
Very high due to fixed rate, remains for the entire maturity of the issue
Shariah compliance
risk is another one unique in case of Sukuk. Infrastructure rigidities, i.e., non-existence of efficient institutional support increases the risk of Sukuk as compared to traditional fixed incomes, see Sundararajan, & Luca (2002)
Default on rent payment, floating rate makes default risk lesser serious see previous case
Exists only within the time of the floating period normally 6 months
Fixed rate Hybrid/ Pooled Sukuk Musharaka h Term Finance Sukuk (MTFS)
Credit risk of debt part of pool, default on rents, fixed rate makes credit risk serious Musharakah has high default risk (see Khan and Ahmed 2001), however, MTFS could be based on the strength
Very high due to fixed rate, remains for the entire maturity of the issue Similar to the case of the floating rate. This is however, unique in the sense that the rate is not indexed with a
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of the entire balance sheet Salam has unique credit risk (see Khan and Ahmed 2001)
Salam Sukuk
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