This document discusses Islamic investment concepts related to securitization and sukuk. It begins by defining securitization as issuing certificates of ownership against an asset or investment pool. It then discusses various types of conventional bonds and introduces the concept of sukuk, which are defined as Sharia-compliant certificates representing ownership in an underlying asset. The document outlines various Shariah-compliant structures for sukuk based on contracts like ijarah, murabahah, and musharakah. It also compares key differences between conventional bonds and sukuk. Overall, the document provides an overview of securitization and various Islamic finance instruments like sukuk from a Shariah perspective.

1. ISLAMIC INVESTMENT
Mahyuddin Khalid
emkay@salam.uitm.edu.my
Sukuk and Securitisation
1

2. Topic Outline
 Securitisation
 Bonds
 Sukuk
 Asset Backed Securitisation
 Asset Based Securitisation
2

3. Introduction
 In normal conventional market, security is a document,
representing receivable amounts owed by the issuer in favour of
the holder.
 Normally the amounts secured by a security are interests bearing
loans.
 Different kinds of securities:
 Bonds issued by a company
 Bonds issued by a government
 Debentures
 Certificates
 Notes
3

4. Securitization
 Definition:
 “Issuing certificates of ownership, against an asset, investment pool
or business enterprise.”
 If the securities represent the proportionate ownership of the
holder in illiquid or tradable assets, the trade of such securities
is permissible.
 The sale of such security will be tantamount to the sale of
holder’s proportionate share in the assets.
4

5. Securities from Shariah Perspective
Securities representing a loan or debt (such as bonds) cannot be
sold or purchased.
If they are sold at a price higher or lower than their face value, it is
considered as “Riba”
If they are purchased at their face value (Bai al-Dayn), this involves
“Gharar” and hence prohibited.
However, securities may be assigned to a third party at par value.
The difference between sale and assignment (al-hawalah) is that
transfer in al-hawalah is with recourse while transfer in sales in
without recourse.
5

6. Originators Investors Capital Market
• Transforms relatively
illiquid assets into liquid
and tradable capital
market instruments
• Cheaper financing costs
due to higher rating via
credit enhancement
• Allows diversification of
financing sources
• Facilitates removal of
assets from the
originator’s balance
sheet
• Provides a variety of
product choices at
attractive spreads that
attract a diversified
investor profile
• Allows investment
products to be tailored
to meet specific
investor needs
- variety and flexibility of
credit
- maturity and payment
structures
• The existence of
secondary
securitisation
markets for
benchmark purposes
• Facilitates and
encourages efficient
allocation of capital
• Reduces risks within
the banking system
Benefits of Securitisation
6

7. 7
Bonds
Bonds which is one of debt Instruments – are promissory notes that are
traded in the market
Bonds are categorised by
Issuer Tenor Coupon type

8. 8
Types of Bonds
Types of bonds (by coupon type):
Coupon bonds
Pay periodic interest based on coupons
Zero coupon bonds
Pay no interest on maturity but only the face
value. The purchaser will buy at discount.
Interest
Can be fixed or floating. Floating interests are
determined in reference to say KLIBOR + x%. If KLIBOR
is 10% and x is 2 then for a bond of RM1000 the interest
is RM120
Types of bonds (by tenor):
Callable bond
Callable by issuer at a predetermined price before maturity. Investor is
normally paid higher than straight bonds
Convertible bond
Allows holder to redeem at face value or convert it to a predetermined
number of stocks
Types of bonds (by issuer):
Government Corporate
Long Term Govt Bond Corporate Bonds
Short Term Treasury Bills Commercial papers

9. Sukuk
Sukuk
Sukuk (plural) and sakk
(singular) means legal
instrument, deed, and
check.
Referred to any
certificate representing
a contract or conveyance
of financial rights,
obligations, or money
transactions that is
Shariah compliant.
Islamic
Jurisprudence
Council
“Any combination of
assets (or the usufruct
of such assets) can be
represented in the form
of written financial
instruments which can
be sold at a market
price provided that the
composition of the
group of assets
represented by the
sukuk consist of a
majority of tangible
assets”
AAOIFI
“Investment Sukuk are
certificates of equal
value representing
undivided shares in
ownership of tangible
assets, usufruct and
services or (in the
ownership of) the assets
of particular projects or
special investment
activity”
9

10. What are Sukuk?
Sakk is believed to be the
source root of the European
Check
The origin of sukuk can be
traced to the Middle Ages
whereby sukuk were largely
used by Muslims as papers
representing financial
obligations originating from
trade and other commercial
activities.
Sukuk refers to an Islamic
investment certificate, which
allows investors to have rights
of ownership of the asset,
including the cash flow and
risks associated with such
ownership.
Sukuk offers risk diversification
for Investors for their
portfolios.
Sukuk are asset-backed,
tradable, and Shariah
compatible trust certificates
10

11. Securitization and Sukuk
In the modern Islamic
perspective, sukuk lies
in the concept of asset
monetization – or also
called securitisation -
that is achieved
through the process of
issuance of sukuk.
Its great potential is in
transforming an asset’s
future cash flow into
present cash flow. Sukuk may be issued
on existing as well as
specific assets that
may become available
at a future date.
Tawriq
• Means to render
something into cash.
• It is about transforming
a deferred debt for the
period between the
establishment of the
debt and the maturity
period into papers,
which can be traded in
the secondary market.
Tasnid
• Means the
transformation of
illiquid debts into
negotiable papers
(sanadat).
Taskik
• Means the process of
dividing assets into
papers (sukuk) or
certificates.
• Securitization of assets
into papers, securities,
or certificates with the
features of liquidity,
tradability, and cash
equivalence.
11

12. Securitization and Sukuk
 The funds raised through the issuance of sukuk should be applied
to investment in specified assets rather than for general
unspecified purposes.
 This implies that identifiable assets should provide the basis for
Islamic bonds.
 Since the sukuk are based on the real underlying assets, income
from the sukuk must be related to the purpose for which the
funding is used.
 The sukuk certificate represents a proportionate ownership
right over the assets in which the funds are being invested.
 The ownership rights are transferred, for a fixed period ending
with the maturity date of the sukuk, from the original owner
(the originator) to the sukuk holders (IFSB, Jan. 2009).
12

13. Reasons for Issuing Sukuk
Growing demand from investors
to place their funds in accordance
with Shariah compliant principles.
Governments or corporates are
able to raise funds for their
working capital or project
financing for infrastructure and
development projects under a
Shariah compliant framework
instead of debentures or loans
with high interest rates.
The funds collected also serves
the purpose of liquidity
management for financial
institutions and individuals
undertaking Shariah compliant
business because it complies with
their internal monetary and
regulatory policies.
To facilitate the development of
the local, regional, and global
sukuk market, and to tap into a
wider investor base.
Sukuk are a means for the
equitable distribution of wealth
as it allows all investors to share
returns from the true profits
generated from the asset.
13

14. Sukuk vs. Bonds
Sukuk Definition Bonds
• Sukuk are financial
certificates representing
beneficial ownership of real
assets.
• It gives the investor
proportional beneficial
ownership in the asset on
which the sukuk are based.
Underlying Asset • Bonds are proof of debt and
not a share of ownership in
the asset.
• It is a debt obligation from
the issuer to the bond
holder.
• The asset on which sukuk
are based must be tangible
and in compliance with the
Shariah and Islamic
principles.
Issuer Representation • Bonds are issued to finance
almost any purpose that
complies with local
regulatory legislation.
• In sukuk, the issuer is not a
borrower, but can either
be:
• A buyer in a sale contract; A
lessee in a lease contract; A
partner in a partnership
contract.
Issue Unit • Bonds are debts, whereby
Issuers are the borrowers
from the investors (bond
holders).
• Each sukuk represents a
share of the underlying
asset.
• Each bond represents a
share of debt
14

15. Sukuk vs. Bonds
Sukuk Bonds
The face value of sukuk is
based on the market value of
the underlying asset.
Issue Price The face value of a bond price
is based on the issuer’s
creditworthiness (including it’s
rating).
Returns are termed as
dividends and will depend on
the underlying Shariah contract
used.
Sukuk holders receive a share
of profits from the underlying
asset (and accept a share of
any loss incurred).
The amount of profit cannot be
ascertained, it could be fixed
or vary as it is based on the
sharing of profit and loss.
Returns Sharing Returns are termed as
coupons.
Bond holders returns can be
ascertained and they receive
regularly scheduled (and often
fixed rate) interest payments
for the life of the bond
regardless of Issuer’s loss or
gain.
The capital is not guaranteed
for sukuk holders.
Upon maturity, Sukuk is valued
based on the market value, a
pre-arranged figure (agreed
upon by the two parties) or a
fair value.
Capital Guarantee The bond principal amount is
guaranteed upon and payable
upon maturity date.
15

16. Sukuk vs. Bonds
16
Bond Item Sukuk
Short, Medium and Long Term Tenor Short and Med-Term (≤5 yrs)
Debt Financing Category No debt but ownership of specific asset
and its cash flows
Not necessary, unless collateralized Underlying Necessary underlying asset, usually
tangible asset
Fixed in time, and amount Claim Ownership claim on specific asset and its
cash- flows
Depends on rating, yield environment and
demand (book-building)
Pricing Use of indicative yields-benchmarked on
reference rates
Fixed income (known/predetermined cash
flows)
Total Returns No guarantee in returns
Unrestricted Funding Purpose Restricted for use in Shariah compliant
assets, in a predetermined manner.

17. Sukuk Payment Structures
Generally, the payments on the sukuk
are structured in two forms:
Amortising Securities or Amortising
Sukuk.
The payments representing the
amortising of the invested capital
together with the profits (fixed or
floating) derived from the investments.
Non-amortizing securities or non-
amortizing sukuk.
The payments of the derived profits
(fixed or floating) are made periodically
during the tenure of the sukuk,
While the payment that represents the
invested sum is scheduled at the end of
period i.e. at the final maturity date of
the sukuk.
17

18. Sukuk Payment Structures
 However, there have been innovations whereby the redemptions
to the sukuk are in the form of exchangeable such as equities
or commodities.
 In the case of exchangeable with equity, the periodic payments
to the sukuk could be from the dividend income stream paid to
the equity.
18

19. Tradability of Sukuk
The sukuk can be
classified as
Tradable
Non-
tradable
Based on the
underlying tangible
assets or
Proportionate
ownership of a
business or
investment portfolio.
Tradable sukuk are
very essential for
Islamic financial
institutions to enable
them to manage
their short-term
liquidity
requirements.
19

20. Tradable Sukuk
•Sukuk, to be tradable, must be owned by sukuk holders, with all rights and
obligations of ownership in real assets, whether tangible, usufructs or
services, capable of being owned and sold legally as well as in accordance
with the rules of Shariah,
•The Manager issuing sukuk must certify the transfer of ownership of such
assets in its (sukuk) books, and must not keep them as his own assets.
AAOIFI Shariah Standard (17) on Investment Sukuk
•Sukuk, to be tradable, must not represent receivables or debts, except in
the case of a trading or financial entity selling all its assets or a portfolio
with a standing financial obligation, in which some debts, incidental to
physical assets or usufruct, were included unintentionally, in accordance
with the guidelines mentioned in.
•As per AAOIFI Sukuk based on ijarah, istisna’, mudharabah, or musharakah
principles are tradable. Non-tradable sukuk represent receivables of cash or
goods. For example, sukuk of salam or murabahah are non-tradable sukuk.
AAOIFI Shariah Standard (21) on Financial Papers
20

21. Tradable Sukuk
In Malaysia, as per the resolution of the SAC of the SC, bay al-
dayn is permissible and it must be made in cash.
It recognizes:
Bay al-dayn or debt trading as one of the
acceptable principles for sukuk issuances
Shariah-compliant cash receivables arising from
contracts such as murabahah, bai bithamin ajil
(BBA), ijarah or istisna’ are converted into
tradable debt instruments.
This enables
tradability of debt and
equity based sukuk in
the secondary market
in accordance with
Shariah principles.
21

22. Sukuk Structure
Return for investment in sukuk in most cases are linked to cash flows and
performance of underlying assets
In general, trading of indebtedness is prohibited, unless it is traded at par
Middle East and some other jurisdictions - Only
allow debt trading at par
Malaysia – Trading of indebtedness is permissible at
any value provided the underlying contract is
Shariah e.g. Bay Bithaman Ajil / Bay Dayn
From Shariah perspective, Islamic financing should only be raised for trading in
specified and identified Shariah compliant assets
Issuance of Sukuk must be supported by an underlying asset
22

23. 23
Factors for considering a Sukuk structure
Economic
objectives of
the Issuer.
Availability of
assets.
Level of debt
that the
company has.
Credit rating
of the Issuer
Legal
framework
Tax
implication
of a structure

24. Definition of Assets
Under the shariah the assets must
meet the necessary conditions:
Must exist physically (land, building, machinery)
Must be pure;
Must have use (however restricted to halal use
and not for example for operations of casino or
alcohol sales outlet);
Must be owned by the seller;
Must be free from encumbrances;
Must be known by specifications, descriptions,
location, etc.
24

25. 25
Sukuk Must Comply to the Underlying Shariah Principles
Funds raised must be used for Shariah compliant (halal) activities.
Fund raised may be used to finance needed tangible assets. Specificity of assets is important,
since Sukuk unlike conventional bonds cannot be used for general financial needs of the issuer.
Income received by sukukholders (investors) must be derived from the cash flows generated
by the underlying.
Sukukholders have a right to the ownership of the underlying asset and its cash-flows.
Clear and transparent specification of rights and obligations of all parties to the transaction, in
particular the originator (customer) and sukukholders.
No fixity in returns.

26. Shariah Contracts Underlying Sukuk
The application of these contracts of transaction results in the sukuk backed or
secured by such assets, thus having an in-built security to the investments.
A sukuk can be structured based on any or a combination of two or more, of the
Islamic contracts of transactions such as
The contracts of participation (uqud ishtirak) of
mudarabah and musharakah
The contracts of exchanges (uqud mu’awadat)
such as bai bithamin ajil, murabahah, salam,
istisna’a, and ijarah.
Sukuk can be structured in different ways depending on the underlying contract.
26

27. Type of Sukuk, Characteristics, and Underlying Contracts
27
Type of Sukuk Characteristics Underlying Contract
Pure Ijarah Sukuk  Issued on stand-alone assets identified on the
balance sheet.
 The rental rates of returns on these Sukuk can be
both fixed and floating.
Ijara
Hybrid/Pooled Sukuk  The underlying pool of assets can comprise of
Istisna’, Murabahah receivables as well as Ijarah
 The return on these certificates can only be a
pre-determined fixed rate of return.
Istisna’, Murabahah receivables
and Ijarah.
Variable Rate Redeemable Sukuk
or Musharakah Term Finance
Certificates (MTFCs)
 Redeemable in nature.
 Has relatively stable rate as compared to
dividend payouts.
 The floating rate of return on these certificates
would not depend on benchmarking with market
references such as LIBOR but would instead be
contingent on the firm’s balance sheet
actualities.
Musharakah
Zero-coupon non-tradable Sukuk  The primary asset pools to be generated would
be of the nature warranted by Istisna and
installment purchase/sale contracts that would
create debt obligations.
 Non-tradable
Istisna’
Embedded Sukuk  These could be Sukuk whether zero-coupon,
pure-Ijara or hybrid.
 Has embedded option to convert into other asset
forms depending on specified conditions.
pure-Ijara or hybrid

28. Asset Backed Securitisations
 Asset Backed Securitisations creates new opportunities to
popularise mudharaba or qirad, and/or musharakah contracts,
 Ability to ring-fenced risks with more secured contracts such as
ijarah, murabaha, salam or other compounded contracts of
exchanges, whereby;
 Risks mitigated through secured cash-flow streams and with lesser
operational and credit risks,
 More shariah compliant due to Special Purpose Vehicle involved
in direct investments or business activities – avoidance of Bay al-
Dayn issues.
28

29. 29
Special Purpose Vehicle in Sukuk Structure
Characteristics of SPV
Bankruptcy remoteness Thinly capitalized
Formed for specific purpose; no
other activates undertaken
Do not add to the cost of
transaction; capital and tax
efficient
Special Purpose Vehicle (SPV) is normally established based on the
common law distinction between legal and equitable
right/ownership
SPV is considered to assume legal
ownership (right as recognized by court of
law) of the underlying asset used in sukuk
or securitization for the benefit of the
beneficiary (whose interest or right is
recognized by the court of equity)
A split is thereby caused to the concept of
ownership as a result of which the
beneficiary is not empowered to take or
assumed all rights as an established owner
of the asset as is required by Shariah law
If he is truly to be considered as a true
owner as per the Shariah provisions that
will give him several rights that include
right of free disposal and possession
without restriction.

30. Asset Backed Securitisations
SPV
(Mudharib)
Mudharaba
or Musharakah
Certificates
Pool of Investors
(Rabb al Mal or Musharkah
Partners)
SubscriptionforCertificates($)
Direct Investments
through ijarah,
murabahah or other
real estate businesses or
trading activities
Cash-flow stream ($)
Profit Distribution
Expensesformeetingoperational
requirements
1
2
3
4
5
6
7
3
30

31. Asset Backed Securitisations
1. Sale of asset to the SPV – True Sale
2. SPV issues asset-backed securities to investors
3. Proceeds from the sale of ABS go to the Originator
4. (Interest) & principal repayments to Investors
SPV Investors
1.
2.
3.
Originator
3a.
4.
31

32. Asset-Backed Securitizations
Islamic Asset-
Backed Sukuk
adds a new
dimension to ICM
products
True sale – legally belong to SPV
Non-recourse sukuk / ABS - credit
risk performance is determined
solely by underlying asset
SPV – bankruptcy remote
(independent)
Correspondence of income
streams with actual income and
value of the assets
Ratings are primarily dependent
on a risk analysis of the assets or
performance of assets
Unilateral purchase undertaking
(if any) – at market value
32

33. Asset-Based Securitizations
 Majority of sukuk issued has been on simple “ijarah” structure –
unsecured financing or known as asset-based securitization.
 Originator seeking financing “sells” the assets to SPV for a value
equal to financing required and lease it back
 SPV – subsidiary of originator
 Lease payments provide fixed income stream which may be
benchmarked to an index / LIBOR +;
33

34. Asset-Based Securitizations
 Conducted on non true-sale basis so repayment and
risk/performance is not asset backed but originator based
 Purchase undertaking of asset at maturity with pre-determined
value
 Ratings are primarily dependent on the riskiness of the
borrower/ sponsor/ originator/ lessee
 Assets only used to facilitate Shariah-compliance.
34

35. Asset-Based Securitizations
 Based on Ijarah:
 Non-true sale – condition to repurchase at maturity
 Payment of rental / profit can be derived from ijarah or other
sources
SPV
Sukuk
Originator
Sukuk
Sukuk
Sukuk
Sale of asset
Sukuk proceeds
Lease & repurchase payments
for assets
Sukuk proceeds
Asset repurchase
Periodic payments:
Lease flows and principal (via
amortisation/repurchase)
35

36. Asset-Based Securitizations
 There are also structures of sukuk al ijarah under an Asset-
Backed Scenario.
 True sale, though
 The ownership of the SPV is transferred to the originator or the
lessor at end of lease. Original underlying sale has been true sale.
36

37. Asset-Based Securitizations
SPV
Certificates of
Investments
Investors
1.
Offer for Sale
of securities
2.
Asset Provider
3. Sale & Purchase
of Asset (payment of
asset acquisition
Cost US$) Asset
4. Transfer of Ownership of
Asset to SPV
1st Transaction: SPV and Asset Provider
1st Relationship: SPV and Investors
Step 1
$
Creation of Sukuk al Ijarah
37

38. Asset-Based Securitizations
SPV Project Owner
1. Execution of al
ijarah contract
ASSET
2. Rental of Asset on fixed term and fixed
rental basis
Ijarah Rental
Obligation
Certificates
(evidence of obligations)
3. Issuance of ijarah rental Obligations Promissory Notes to SPV
implying cash flow stream on asset.
Step 2
38

39. Asset-Based Securitizations
SPV Project Owner
1.Regular Ijarah Rental
Payments
Asset
5. Asset transferred to Project Owner
Investment
Certificates
Holders2. Scheduled Distributions of Coupon Payments to Holders
Of Investment Certificates issued by SPV
3. Final Repayment
Representing Total
Settlement equal to
Initial Purchase Price
Of Asset by SPV
4. Payment of Final Amount being final settlement of
Obligations under Ijarah Contract
39

40. Asset-Based Securitizations
 Assets purchased by the SPV are funded by the issuance of
floating rate Trust Certificates, representing beneficial
ownership in the assets and having beneficial rights on the lease;
 Upon maturity of the lease, SPV sells asset to the Project Owner
at the original price.
 Proceeds from this sale will be utilised to meet the final
payment to investors.
40

41. Asset-Based Sukuk vs Asset Backed Sukuk
Asset based Sukuk Asset backed Sukuk
Feature Using Shariah compliant
assets/business ventures to facilitate
issuance of Sukuk
Asset backing Shariah compliant
assets/business ventures which form
PRIMARY source of income /return to
investor. Issued in various Shariah
principles
Key Accounting Concept/
treatment
ON balance sheet (for
originator/obligor)
OFF balance sheet (for originator)
True sale criterion: legal & off balance
sheet accounting
Funding Cost Market driven mainly depending on
originator/issuer credit rating/standing
Mainly based on the strength of the
asset cash flow
Rating Corporate rating of issuer/obligor Strength of cash flow
41

42. Summary
In this
chapter
you have
learned
about:
Securitisation
Bonds and
Sukuk
Asset Backed
Securitisation
Asset Based
Securitisation
42

43. Thank you43