April 15, 2009 / 5:50 PM / 11 years ago

Scholar critique spurs ijara Islamic bond

DUBAI (Reuters) - Since a revered Islamic scholar spoke out against some sukuk structures more than a year ago, issuers have refocused their attention on the ijara Islamic bond model, bankers said on Wednesday.

Sohail Zubairi, chief executive officer of Dar Al Sharia Legal & Financial Consultancy, talks during the Reuters Islamic Banking Summit in Dubai April 13, 2009. REUTERS/Ahmed Jadallah

Some bankers have attributed last year’s downturn in issuance of sukuk, the Islamic alternative to bonds, to comments by Sheikh Muhammad Taqi Usmani that musharaka and mudaraba sukuk should not promise guaranteed returns.

Most Islamic bonds should be treated as equity instruments, said Usmani, chairman of the board of scholars at the Accounting and Auditing Organization for Islamic Financial Institutions (AAOIFI).

His February 2008 comments marked a shift for Muslims seeking fixed-income returns and, in the following months, coincided with a slowdown in the sukuk market as the global financial crisis deepened.

But bankers at the Reuters Islamic Finance Summit on Wednesday downplayed that link, saying the general slump in the global debt market was behind the drying up of sukuk, not a fear the structures failed to comply with the spirit of Islam.

“The sukuk market has shrunk as a direct result of the market conditions rather than an issue with the structures themselves,” said Raphael de Ricaud, head of Islamic finance at Rothschild, an investment bank providing advisory services.

His comments were echoed by Armen Papazian, head of Islamic finance at UBS Investment Bank, who said the recovery of the sukuk market would happen as part of a broader economic rebound.

“This industry is growing, yes, but it is growing in the context of conventional finance. You have the bond market which is drying up in the same way which you have the sukuk market drying up,” Papazian said.

Still, some summit participants said controversy did have a direct affect on sukuk issuance, leading to a 60 percent drop in sukuk investments, according to Peter Hodgins, partner at Clyde & Co legal consultants in Dubai.

“There is an element of nerves there. We saw what happened in the sukuk market. You can have one influential scholar speak out and effect the whole market,” he said.


But controversy about the ripple effects of Usmani’s comments were exaggerated since ijara sukuk have been the most popular, according to Afaq Khan, chief executive of Standard Chartered Bank’s Saadiq Islamic unit.

The sovereign bond Indonesia unveiled on Wednesday takes the ijara, or sale and leaseback, form, and about 45 percent of the $15 billion in sukuk issued last year were ijara.

“I think it has been overblown,” Khan told the summit, adding that he expected new sukuk worth $10 billion to be issued this year.

“The musharaka sukuk on which (AAIOFI) has given the guidance are not the predominant structure of all the outstanding sukuk that are in the market today. They are a small minority.

“Whether you do an ijara for a sukuk, or for syndication, ijara as a sharia concept remains unchanged. There is nothing wrong with it.”

Islam bans lending on interest as usury. Instead, returns derived from underlying physical assets are paid to certificate holders. These physical assets may be financed through profit-sharing ventures, such as musharaka and mudaraba deals.

Some 60 percent of sukuk were structured this way in 2007, ratings agency Standard & Poor’s said last year.

The two forms are based on profit-sharing ventures and mirror a conventional bond by guaranteeing a fixed return regardless of the venture’s success, which contravenes Islamic law obliging business partners to share both risk and reward.

Restructuring sukuk to offer variable returns would turn them into equity instruments, a move backed by Usmani.

In late 2007, he shook the industry by saying that about 85 per cent of sukuk did not comply with Islamic law because they were underpinned by repurchase agreements.

“This scholar has a lot of weight,” said de Ricaud, pointing to an upturn in ijara sukuk issuances after the comments.

“If you look at the recent structures, whether it was 2008 structures or 2009 structures, most of them were ijara sukuk ... I see more and more structures which are backed by an asset which exists at the inception of the facility.”

Editing by Sharon Lindores

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