Structural risks exist in some Sukuk designs due to disagreements between Shariah scholars over key architectural elements. This causes bundled risks that make certain financial products impossible according to some scholars but possible according to others. To avoid structural risks that could harm Islamic capital markets, there needs to be consensus among the main stakeholders in the industry, including standard setters, issuers, investors and scholars, which may require establishing an apex board representing these groups.

1. Structural risks in
Sukuk designs
Dr. Tariqullah Khan, Professor of Islamic Finance
QFIS – Hamad bin Khalifa University
CENTER FOR ISLAMIC ECONOMICS AND FINANCE
Symposium on Sukuk - Shariah, Legal and Economic
Issues - November 9, 2013

2. What are Sukuk?
Sukuk are special types
of bonds based on the:
Credit risk of the issuer
Ownership share of the underlying assets
Exposure to market risk based on underlying
contracts
Simultaneous compliance with Islamic and
prevailing laws

3. Yearly issuance in billion US dollars
140
Size of annual global Sukuk issues
Total outstanding
global Sukuk in 2013
are estimated at US$
210 billions
120
100
80
60
40
20
0
2004
2005
2006
2007
2008
2009
2010
2011
2012 2013Q3
Source: Zawya Sukuk Reports

4. Sukuk demand drivers
Simultaneous conformity with the Islamic and
prevailing legal regimes
Financial inclusion, deepening of financial
markets
Risk-return considerations & unique asset class
Infrastructure project finance
Synergy with other segments of Islamic financial
services
Progress in relevant financial infrastructures

5. Structural risks in the design
of Sukuk
is inhibiting & destabilizing
What is it?
How it exists?
How to alleviate it?

6. Sukuk are engineered and
structured products
by the architectural
players in conformity with
the required architectural
elements

7. ⃝
⃝
⃝
⃝
⃝
Who are the architectural
players in designing the
product?
Architects – setting the principles, norms and
guidelines (Shariah & legal scholars);
Engineers - (product developers & arrangers)
Plumbers - (other professionals)
Influencers – independent
scholars, Muftees, media
Investors and users

8. What are the architectural
elements of the product design?
Universal ethical principles;
Tenets of religious faith;
Social norms;
Best practice business and industry
standards;
* External regulatory guidelines
* Internal operational and contractual
documentation
*
*
*
*

9. Violation of
architectural
principles
① Shaky
foundations of
the wall
② Raw rocks in
the wall
③ Too narrow
Structural risks of a
design

10. Narrow but
stable
Unstable but
not narrow
Noise among architectural
players will increase vulnerability

11. Preconditions for
structural/architectural
stability
Consensus among
lead architectural players
about
key architectural elements

12. The noisy
architectural players
and
structural risks in
the design of Sukuk

13. Top standard setter
of the industry
❶ Promise to repurchase the
Sukuk assets at the initial price
is not permissible
“Sukuk and their Contemporary Applications”
open source document 2007 by Muhammad
Taqi Usmani, President of the AAOIFI Shariah
Council
❷ Promise to repurchase the
Ijarah Sukuk assets at the
initial price is permissible
AAOIFI Sukuk Resolution 2008
If the AAOIFI position was #
2, why in #1 it was completely
ignored?
If #1 was an important internal
position paper, why it became
viral on the Internet even before
#2 was issued?
Hence the impression – there is
a disagreement between
Chairman and members of the
AAOIFI Shariah Board
Noisy architectural players – example 1

14. OIC Fiqh
Academy
Re-purchase of Sukuk or
their assets for a prefixed
price is impermissible in
the future cases of
issuance
Resolution No. 188 (2012) of OIC Fiqh
Academy on the subject of Sukuk
Top independent
Academy of the
industry
❶ Externally in conflict
with the 2008 AAOIFI
Resolution about
permissibility of
repurchase in case of Ijara
❷ Internally inconsistent
as it makes only future
cases of Sukuk with
repurchase impermissible
Noisy architectural players – example 2

15. Impression of the Market
&
- the 2 apex standard setters of
the industry disagree on what
is permissible and what is not

16. “Prospective Holders should note
that different Shariah advisers, and
Saudi courts and judicial
committees, may form different
opinions on identical issues and
therefore prospective Holders may
wish to consult their own legal and
Shariah advisers to receive an
opinion if they so desire.”
SABIC Sukuk Prospectus
Response of Sukuk
issuers to the noise
between
architectural players
by itself adds
additional noise
Noisy architectural players – example 3

17. Structural basis of Financial
Market Products
Ownership
risk of the
asset
(price
risk)
Equity shares
Credit risk of
the issuer &
interest rate
risk
Bonds

18. Independent Shariah
scholars
Asset
price
risk
Sukuk
Equity
Interest
rate
risk
Credit
risk
Bond
Structural risk free Sukuk will be
without repurchase agreement

19. Shariah Advisors of Sukuk
Issuers
Asset
price
risk
Equity
Interest
rate
risk
Credit
risk
Sukuk
Bond
Structural risk free Sukuk will be
with repurchase agreement

20. Repurchase at
initial price is not
permissible
Independent
team
noisy
arguments
fragility of
Repurchase at
initial price is
required
Advisors’
team
firm
argument
s
structure

21. Lack of consensus on
architectural elements
Independent
Shariah
scholars
More noise No noise
Shariah
Advisors
The one single most important
architectural element – repurchase of
Sukuk assets at initial price

22. Sukuk Structural Risk – bundled nature
of credit, price and return risk
Consequence
of disputes Return
and noise
risk
between
Shariah
Price
Credit
scholars
risk
risk
Sukuk
Credit
risk
Interest
rate risk
Bond
Asset
price risk
Equity

23. Can the market
have this type
of a product?
Return
risk
Price
risk
Credit
risk
Bundled risks
Independent
Shariah
Scholars –
No, because it has
credit risk and the
rate of return risk is
actually interest rate
risk
Shariah Advisors –
No, because rating and
pricing is not possible

24. Structural risk
originates from
the
disagreements of
Shariah scholars
and leads to the
bundling of
credit, price
and return risks
Such a financial market product could not exist
in the market by consensus of the Shariah
advisors and independent Shariah scholars

25. Structural risks could
cause wealth losses as
well as hamper growth
and depth of the Islamic
capital markets

26. Avoiding structural
risks is an imperative
for Islamic capital
market development

27. Avoiding structural risks
is an imperative for the
resilience and stability of
Islamic capital markets

28. The key architectural
players are actually
Finance Ministers
Central Bank Governors
Sukuk Issuers and Dealers
Islamic Bankers
Investors
“Independent” scholars

29. Looking ahead – a high
powered Apex Islamic
Finance Board of the
above mentioned key
stakeholders is needed to
avoid the structural risks of
the Sukuk industry

30. Announcement
Please be informed that the Qatar
Faculty of Islamic Economics does offer
an Executive Education Program on
“Sukuk and Islamic Capital Markets”

31. Thank you
tkhan@qfis.edu.qa