Islamic Financing Mode Has Been Boosted by Sukuk - Coursework Example

Running Header: Islamic Sukuk Student’s Name: Instructor’s Name: Course Name & Code: Date of Submission: Table of contents Introduction………………………………………………………………..……….3 Sukuk broad definition……………………………………………………..……….3 Structure of Sukuk …………………………………………………………………4 The heights gained by Sukuk……………………………………………………….7 Challenges faced by the Sukuk market…………………………………….………10 Conclusion………………………………………………………………………….15 Bibliography ………………………………………………………………….……17 Islamic Sukuk Introduction Islamic financing mode has been boosted by Sukuk as they are crucial drivers in raising finances. Sukuk’s market growth has been driven by the increasing demand as well as the standardizing the Islamic tools for finances. It is expected that the Sukuk markets will hit to more than US$ 210bn as we approach mid 2011; with Malaysia being the most active markets for Sukuk. There is a rise in the demand of Sukuk as well as increase in the number of issuers mostly within the Islamic dominated countries. The growth in wealth in the Middle East countries is rising very fast thus calling for more products that are compliant to the Sharia law. This is an opportunity that has led to increase in the investors trading in Sukuk in both developed and developing countries. As development in the bond’s market keep on increasing it is expected that the Sukuk among other Islamic instrument will also grow rapidly; this calls for increased transparency as well as the much needed uniformity according to the Shari’ah rules and guidelines. The number of institutions involved in the Islamic capital industry has increased, therefore, the need to have Sukuk traded through innovations to help Muslim states rather than their capital being tapped by the major world economies. Sukuk broad definition As it is in today’s practices for business, Sukuk is a take same to those which are represented by a certificate of trust.1 In other words Sukuk can be referred to as financial instruments that are over Shari’ah- biddable fundamental system generating an income for person holding that particular tool; it is an Islamic financial certificate and in the western finance it is similar to the bond, in this case Sukuk abides by the Islamic laws the conventional Western profit paying structure of bonds can not be allowed in the Islamic finance, the individual issuing Sukuk does the selling of the security to a group which is investing, the investor group then leases it again to the person issuing for a preset lease fee2. The issuer of the certificate also makes a contractual assurance to repurchase the certificate at a later date as per value. The Sukuk must the ability to associate the refunds and income of the financing towards the assets bought; debt trading is not allowed under the Islamic law, due to this money must be collected for the assets which can be identified. Sukuk are very unique income vehicles and are structured as assets, projects or even services entities; providing corresponding ownership in a assigned asset as well as pool of asset pools, thus enabling holders of Sukuk to have full and good possession in the fundamental assets thus enabling the Sukuk to a part of the incomes as well as the proceeds upon tendency. Sukuk cannot be subjected to rates of interest movements.3 The structure of Sukuk Sukuk holders get revenues from various structures. Most of the Sukuk issued to date in most cases has been completely asset-based but not asset backed. Asset placed Sukuk is whereby the holder of the Sukuk has to depend for payment on the group that seeks to raise finances, in a similar manner as they can under the embodied bond issue. On the other hand, in the Sukuk backed by assets, their bearers depend on the Sukuk’s assets for protection. The recent developments in the Islam finances is the issuance of transformable and Sukuk that can be exchanged. In Islamic markets, the Accounting and the Auditing Organization for Islamic Financial Institutions (AAOIFI), is the institution has the responsibility for developing and enforcing international Islamic Finances measures in the capital market.4 The AAOFIFI permits almost 14 varying types of Sukuk and they are also permitted under the Shari’ah standard of the Sukuk, today this institution is based in Bahrain; it has issued more than 68 measures and it is backed by more than 160 members.5 The Sukuk issued vary very much; among all the Sukuk Issued al Ijara is and has been the most known among corporate and governments willing to bring up funds within the Islamic debt market of debts. Sukuk issuing has been gaining momentum in today’s world, though some researchers have been arguing that it is almost becoming stand still. Due to the rise in demand of Sukuk in many countries, there have been so many claims of introduction of Sukuk which do not meet the characteristic and do not meet the qualities recommended by the Sharia law. In the most current research Sukuk al Ijara issues made a contribution of around 43.6% of the entire total issued, this was seconded by Sukuk al Musharaka at 27.5 % and then followed by Sukuk Mudaraba at 1.4 % of the total Sukuk issued.6 The Sukuk al Murabaha is described as an action of cordinating securities directly where a particular vehicle invests in money gotten through selling Sukuk in Murabaha process. A company buys asset from the special purchase vehicle based on Murabaha foundation; the later planed installments compensated by the company to the special vehicle account for the repayment of all the cost and the benefit component.7 In the Sukuk al Ijara, the company that is willing to have its finance raised through the issuance of Sukuk al Ijara trades particular assets to the issuer and then makes payment for the assets through the income of the Sukuk issued and custodies the title to the assets on faith for the holders of the Sukuk; the person issuing then engages the assets to the company for a determined period of time and for a lease. When they mature original holder has the freedom to buy the assets from the issuer but at a cost which is going to constitute the repurchase prize for the Sukuk within the time of maturity.8 As in the Sukuk al Musharaka; various embodied groups regard the Sukuk as Musharaka Term Finance Certificates. In this Sukuk their holders make a contribution of a certain figure to the person issuing the Sukuk, the issuer afterwards embarks into a joint deal with the originator, and the issuer provides the capital that is received Sukuk holders, from this point the originator makes a supply of the assets which is most essential for the business to move on effectively. When the profits are accumulated from the Musharaka, they are circulated to the person issuing the Sukuk as well as the originator at preset basis. When there are any loses they are also divided in symmetry according to capital contributed. The person issuing them makes payment circulation periodically to the Sukuk holders from the Musharaka benefit distribution.9 The heights gained by Sukuk There is an estimate of about US$ 267bn Shariah compliant assets held by the many investors from the regions which hold Islamic faith. There is an increasing demand for Islamic market products. This has resulted to need for innovations in the structuring of the Islam financial products so as to match the wants of the investors.10 The rising aspect of the Gulf based pension funds as well as the industry that is concerned with insurance, hence improving the need to invest in Sukuk as part of the strategies to have well defined investments; is seen as strategy that is likely to have a negative impulse especially to the development of the industry for Islam.11 The Sukuk market is the quickest market in the Islamic finance industry and it has an estimate growth of about 40 %; this is attributed to the high level of savings in the surplus in Asia and the Middle East countries. The other bonds such as the US bond have been having a tremendous increase.12 Though this is the case many Western investors have in most recent times become more interested in the buying of the Gulf Sukuk as they are seen to be strong real value and they have a very low risk involved when they are transacted. With the growing of the secondary markets, Sukuk are become more differentiated. In Malaysia for example exchange of stock has shown interests by bringing up a market for formal as well as the Islamic bonds13. As indicated by the study that was done by the International Monetary Fund, there is a strong demand for the Shari’ah ruled and principled bonds from the Muslim countries and the conventional world wide institutions; this is seen to have a major boost to the Sukuk’s potential in spite of the credit crisis globally.14 There is however the rising need to have some of the critical problems most of which are related to the legal uncertainty and the regulatory problems regarding the selling of the Sukuk bonds. These regulations will enhance the performance of the Sukuk in the capital market as it is likely to eliminate the Sukuk which are not Islam based and which do not posses the Sharia law permission and regulation guidelines. There are so many Sukuk in the market but they are not real, therefore it is very crucial to have these regulations to help eliminate or help distinguish the right Sukuk from those that are issued by insurers who also trade in Sukuk which are not permitted under the Islamic laws.15 There is the risk involved in trading the genuine Sukuk and other Islamic financial related merchandises; this risk is referred to as the Shari’ah compliance risk i.e. the broad abiding to the Islamic Law. In specific, this risk is the value loss of assets due the issuer’s violation of its responsibility with the respect to abidance with then Shari’ah. Several such instances whereby there is the willingness or at times innocent breaches.16 There is prospectus which offers a definition of various events which may lead to Sukuk being considered null and void. A good example is when the Sukuk is mainly based on a mix of Ijara and Istisna assets; it asserts that Ijara must be more than the Istisna in a particular kitty, if this is not the case the deed of selling the Sukuk will have to be dissolved.17 In other words the Shari’ah abiding risk may be defined as a value of the return which is forgone when a comparison is made to the rates of the market, resulting from the compliance with the Islamic law.18 This issues are brought forth to ascertain that the true Sukuk posses some special characteristics that comply with the Islamic law. Other non Islamic Sukuk has qualities that cannot be considered to be the same as those held by the real Islamic Sukuk. The big issue that is brought forward here is the aspect of the willingness to compete and to survive in capital markets as a Shari’ah abiding asset. There is an argument due to the existence of bonds which are not Shari’ah compliant regarding the massive growth in the international markets. Challenges faced by Sukuk market Sukuk is a representation of new and modern advancement in world wide capital market; one among the quickest developing sections in the industry of Islamic finance. Due to the type of the Sukuk being young in today’s world of capital market investments, it is faced by some challenges whereby some Islam scholars have been challenging the conditions of the many Sukuk regarding their compliance with the Shari’ah regilations19. Much of this criticism has been arising from a prominent Islam scholar; Muhammad Taqi Usmani. He suggests that about 85 % of the Sukuk in the capital market do not abide with the Islamic law. Among the Sukuk discussed earlier in this coursework, the many current structure of Gulf Sukuk do not follow the Islamic regulations.20 The Shari’ah Board of Accounting and Auditing organization for Islamic Financial Institutions has been studying all aspects of issuance of Sukuk and non – Shari’ah compliant Sukuk advised to strictly adhere to all set standards of issuance. There are six recommendations that have been issued buy the Shari’ah board of AAOFI regarding the structures of the Sukuk. 21Among the recommendation include that; for Sukuk to get easily traded, they have to be possessed by holders of the Sukuk as well as adhering with all the rights and obligation s a company such as ownership. There must be an establishment of the transfer of asset ownership from the managers of the Sukuk. These assets must not be retained by the managers as their own. Receivable debts must not be represented by Sukuk apart from in the instances where there is a trading of financial entity whereby by it sells all the assets it has or function which has a standing financial responsibility. It is not legally allowed for the Sukuk managers to guarantee to offer loans to holders of Sukuk, especially when the real earnings decreased from all anticipated income.22 It is also not permitted for the investment manager, agent or even partner to make an agreement to re-purchase assets from the Sukuk holders at a particular prize when the Sukuk are wiped out at the termination of their due date.23 The accounting body further suggests that it can be permissible to concur in buying the assets for the net value, fair market value, market value, or even for a price concurred at the time the Sukuk is being bought but must be in accordance with the rules of partnering as articulated by the Shari’ah law as well as on the subject of assurance.24 When trading in the Sukuk al- Ijarah, the lessee is allowed to concur to buy the leased assets when Sukuk are put off for their nominal price as long as the person leasing is not a partner in business, an investment handler or an agent25. It is also agreed upon that the Shari’ah supervisory boards is not supposed to limit their role to the issuance of ruling on the structure of Sukuk; these boards should supervise the implementation as well as the efforts to comply at each stage of the operation. There is a major concern from investors as well as scholars who claim that there is issuance of Sukuk that do not meet the regulations of the Islamic law , though they are said to possess qualities similar to those of the real Sukuk. This is the base of argument that as much as the fake Sukuk try to penetrate the capital market they can not meet all the demands to fit in the category of the Islamic Sukuk mainly due to lack of compliance to the Sharia law. 26 As indicated earlier in this coursework Sukuk are certificates which bide with the Shari’ah law and can be tradable financial instruments; they offer a reflection of the value of particular asset. In this perspective it is crucial to have specific tangible assets backing Sukuk all through the tenure process, Sukuk holders must also have the proprietorship interest in the assets which are being financed.27 For Sukuk to be to have the much anticipated outcome and fro the investor’s security it is right for the Sukuk to be legally sold; this must be a transfer of assets from originating company. In order to set up a factual transfer of assets, the manager issuing a particular Sukuk must be able to assure the transfer of owning such particular assets and must not possess them as their own assets.28 This transaction must involve a binding agreement for the sale of transaction from the originator to the investors of the Sukuk; these contracts must be legal, valid and binding as well as being enforceable by all the parties and the laws of the country or state in which the company as well as the assets are based. In issuance of some Sukuk, the assets involved may be informed of shares from companies which in some instances may not see the real ownership, but it offers a right to returns to holders of Sukuk. Some of these arrangements may render the Sukuk to be unlawful in the perspective of the Shariah law. It is further argued that many Sukuk structures applied have in most times reduced to form an identical form to the conventional bonds. Sukuk structure should be in line with the requirements set out by the Shari’ah board effectively to facilitate transaction of real Sukuk all over the world. 29 The crucial recommendation suggested by the Accounting and the Auditing Organization for Islamic Financial Institutions (AAOIFI) regarding the ownership of the assets are not likely to be put into effect easily as many countries have different restrictions to the regulations governing the ownership as well as change in ownership of assets. Some jurisdictions may hinder the anticipated benefits from the asset ownership which is very crucial in Sukuk trading. A good example is the case of Indonesia whereby there are strict principles that govern the asset ownership transfer.30 Firstly the assets that are needed by the state for the normal operation of the government cannot be transferable to third parties. Secondly some state assets cannot be transferred to t other parties without the prior commendation of the involved government body and thirdly the sale of assets owned by the government must be conducted through a public auction.31 Transfer of assets ownership is crucial in the Sukuk capital market; therefore if the process involved is tedious or full of many regulations then it complicates the whole issue of Sukuk trading. It is very essential to have complete support and cooperation from all respective governments to introduce laws and guidelines or even amendments to laws that are already existing in order to avoid the possibility of arising conflicting with the already existing laws and regulation in the trading of Sukuk all over the world. It is therefore, important for these regulations to help in the determination of the real qualities and the characteristics of real Sukuk in the capital market. Conclusion As we have analyzed above, it is quite clear that the reasons making Sukuk industry to be faced by the challenge of introduction of fake or Sukuk that do not meet the qualities articulated by the Shari’ah law, include mostly the legal problems which are experienced under the existing legal framework of particular jurisdictions in various countries.32 The rising issues of the implementation of the contracts, issues that are experienced across the borders, unavailability of well- structured and well regulated secondary market for Sukuk among others are the problems facing conventional bond market as well the Sukuk market. Most Sukuk in the market do not abide with the Shariah law thus offering partial repayment of capital and the periodical distributions. This contradicts with the Shari’ah law indicating that any party involved in sale of Sukuk must have the ability to share all the risk and rewards. The most important idea is to revise the structures of the Sukuk; involving all the key stakeholders among them state market providers, market players, regulators, legal experts and the Islamic scholars. It should be made an ongoing process to help achieve sobriety in the Sukuk market in future. Innovations should be encourages in the Islamic capital market. Bibliography. Edib, S. & Abas, M. ‘The global financial crisis and its implication for the Islamic industry’ Journal of Islamic Finance, vol. 3, no.4, 2010, pp.33. Islamic Finance News ‘Asian Sukuk Market Faces New but Familiar Challenges’, Islamic Finance News, Vol. 6, Issue 16, 2009. Ishani ,C. ‘The state of the Sukuk; moving upward’ Islamic Finance News, vol. 6, no. 35, 2009, pp. 2-7. Khalid, H, “The Future of Sukuk: Substance over Form? Understanding Islamic securitization, Asset-Backed and AAOIFI principles”, Moody’s Investors Service, 2009. Kuran,T. ‘Islamic Economics and the Islamic Subeconomy’, The Journal of Economic Perspectives,1995, vol.9, no.4, 155-173. McMillen, Michael, J. T, ‘Contractual Enforceability Issues: Sukuk and Capital Markets Development’, Chicago Journal of International Law, vol. 3 no.1, 2007, pp. 12-15. Mahmoud, A. El-Gamal, Islamic Finance: Law, Economics and Practice, Cambridge University Press, Cambridge, 2006. Muhammad, Taqi, U. & Muhammad, T. An introduction to Islamic finance, Brill publishers, 2002. Muhammad, H. A. ‘Structuring the Islamic finance industry’ , International Journal of Islamic and Middle Eastern Finance and Management, vol. 3 no. 2, 2010, pp. 15 Nathif, A.,& Abdukader, T. Islamic bonds: Your guide to issuing, structuring and investing in Sukuk, Euoromoney books, U.K, 2004. Raphael, W. ‘Kuwait - A dark day for Sukuk’, Islamic Finance News, Vol. 6, Issue 19, 2009. United Kingdom, 2006. Sainful, A. & Mahmood, S. The application of Bal-Al-inah and Bal-al-dyn in Malysia Islamic bonds: An Islamic analysis, International Journal of Islamic Financial Service, 2009. Simon, A., Riffat, A.,& Abdel, K. Islamic finance: The regulatory challenge, Kluwer Law International, U.S.A, 2006. Thomas, A.,Cox,S., & Kraty, B. Structuring Islamic finance transactions, Euro money books, Canada, 2005. Vishwamath, S.R. ‘Challenges of Islamic financial market’, The Journal of Structured Finance, vol. 14, no. 4, 2009, pp. 56-67. Warde, I. Islamic Finance in the Global Economy, University of Edinburgh Press. Edinburg, 2000. Wlison, R. ‘Islamic finance: Principles and practice’, Journal of Islamic Studies, vol. 2, 2010, pp. 3-10. Zamil, I. & Abass, M. An introduction to Islamic finance: theory band practice, John Wiley and Sons, Canada, 2007. Read More