Wednesday, November 4, 2009

AAOIFI rule seen with lasting impact on sukuk market

Asset-based sukuk mudaraba and musharaka will fall out of favour as it is hard to accommodate a ruling on repurchase pledges, a sharia expert said, indicating the market would be permanently affected by the decree, reports Reuters (Nov 3, 2009).
Bankers and lawyers have been seeking ways to structure bonds that comply with a 2008 ruling by industry body AAOIFI which forbids borrowers in sukuk mudaraba and musharaka from promising upfront to pay back their face value at maturity. This follows a rule that parties must share risks under these structures but the industry had been concerned it would make Islamic bonds less palatable to investors.
Issuance of sukuk musharaka and mudaraba fell 83 percent and 68 percent respectively last year, Moody's has said.
But bankers and lawyers had said it was too early to tell if the AAOIFI ruling would have a lasting impact on the $107 billion sukuk market as they tried to find ways to accommodate the prohibition, the report said.
Sharia adviser Mohd Daud Bakar said it would be tough to do so, with Reuters quoting him as saying: "It's very difficult because it goes against the very essence of mudaraba and musharaka because you cannot guarantee the capital in equity-based contracts."
Daud said the AAOIFI ruling has yet to be tested as recent sukuk issuance such as that by Malaysian state oil firm Petronas did not use the mudaraba and musharaka structures.
Some lawyers have said sukuk mudaraba and musharaka can be structured to ensure that investors receive their capital at maturity through careful scrutiny of the assets used although this could be a difficult task. Daud said asset-backed sukuk mudaraba and musharaka would not face the same hurdle. "For asset-backed you are issuing sukuk to invite investors to invest in a particular asset which could give you a very steady income stream where there is no recourse to the originator," he said. Most sukuk have been structured as asset-based instruments, rather than asset-backed securitisation where investors have a claim on the specific underlying asset. AAOIFI's ruling would force the industry to innovate and find alternative sukuk structures, Daud said.

1 comment:

Anonymous said...

Mudarabah and Musharakah are equity-based contracts and therefore should not be treated as debt-based contracts. Why the industry continues to structure debt papers based on an equity structure baffles me.

A Sukuk is not a bond and a Sukuk is defined by the underlying contract that governs it.

After so many years of being exposed to Shariah based finance, I’m stumped that the so called Islamic bond fund managers (and the rest of the market really) still view Mudarabah and Musharakah Sukuks as debt instruments. Well, I’m telling them again – it’s NOT. Sukuk Mudarabah and Musharakah investors are not borrowers, they are partners.

The market should take the lead by re-identifying their investment needs and demand the appropriate structure. If they want to invest in fixed income instruments, look for Ijarah, Murabahah or Istisna based structures.

If they want to invest in Mudarabah and Musharakah Sukuks, they better make sure they are looking at them from the equity perspective.

The reason why we are facing this problem is because we (the market/industry) continue to apply Shariah based finance on the conventional platform. If a Mudarabah and/or Musharakah based Sukuk has identical features with a conventional bond, why bother having an Islamic finance industry?