Understanding Islamic Finance - Doha Academy of Tertiary Studies

390 Understanding Islamic FinanceSukuk issued on the bases of Shirkah and Ijarah represent the ownership of the underlyingassets by the Sukuk holders; hence, the same can be traded in the secondary market at theprice determined by the market forces. A typical debt market provides a fixed return andsecondary market trading facilities; Sukuk issued on the basis of Ijarah and pools of mixedassets – fixed as well as intangible like receivables – can also provide the same facility,subject to the fulfilment of certain criteria. Near alternatives of conventional bonds can,therefore, be developed through securitization of assets. The instruments created throughsecuritization of assets represent the proportionate ownership of their holders in the assets.Like the two categories of modes in Islamic finance, i.e. participatory and fixedreturn/debt-creating,Sukuk or investment instruments can also be variable-return Sukuk(VRS) and fixed-return Sukuk (FRS). But the FRS are different from the conventional debtrelatedinstruments like bonds and debentures because, in principle, the return on Islamicinstruments will be quasi-fixed, as we shall explain in this chapter, unless an independentthird party guarantee is provided, as admissible under the Sharī´ah rules.15.2 THE CAPITAL MARKET IN AN ISLAMIC FRAMEWORKBefore discussing Sukuk and securitization, we may briefly see the salient features of thecapital market comprising debt, equity and the Sukuk markets. An equity market, commonlyknown as a stock market, is the trading place for the stocks of joint stock companies. Adebt market, which deals in debentures and bonds, normally involves Riba and Gharar and,therefore, is not an active part of Islamic financial markets. Debts can only be assigned toothers on a par value without transferring the risk of default. This process is called Hawalahin Fiqh terminology. The difference between sale and assignment is that transfer in Hawalahis with recourse, while transfer in ordinary sale is without recourse.Key components of an Islamic capital market are Sharī´ah-compliant stocks, Islamicfunds and Sukuk/Islamic investment certificates. The basic concept of a stock market ispermissible under Sharī´ah. However, there are certain conditions which need to be followedfor investments in stocks conforming to the Sharī´ah principles. Sharī´ah guidelines in respectof stocks have already been given in Chapter 8 and to some extent in Chapter 12.An Islamic capital market can be developed by developing Sukuk, introducing Islamicdepository receipts (IDRs) at a mass level, replacing debt financing with Shirkah-basedindirect and direct financing, securitization and fund management. While IDRs refer to anarrangement for trading of stocks in countries other than their origin (see Box 15.1), Sukukrepresent common undivided shares in the ownership of underlying assets with the effectthat the Sukuk holders share the return as agreed at the time of issuance and bear the loss,if any, in proportion to their share in investment. Issuance of Sharī´ah-compliant Sukukwould result in enhanced supply of risk-based capital with limited risk-taking on account ofthe prohibition of Riba, gambling and Gharar and a balanced return rate structure based onreal-asset-backed economic activities.Box 15.1:Developing Islamic Depository Receipts (IDRs)A GDR is a negotiable certificate held in the bank of one country representing aspecific number of shares of a stock traded on an exchange of another country.It is an arrangement for trading of stocks in countries other than their origin. The