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Sukuk Defaults: On Distress Resolution in Islamic Finance

Author

Listed:
  • Sweder van Wijnbergen

    (University of Amsterdam)

  • Sajjad Zaheer

    (University of Amsterdam)

Abstract

Islamic strictures require investors to share risks with the entrepreneurs they finance. Sukuk (Islamic securities) come mostly in two varieties, musharakah (basically a joint venture agreement) and ijarah (more like an operational lease agreement). Yet defaults did happen, even in the case of musharakah (joint venture) sukuk discussed in this study. So is Islamic finance failing to deliver on its promises? To answer that question, we analyse four major defaults on Sukuk that have happened recently in the aftermath of the worldwide credit crisis that has engulfed the world since 2007. These case studies make clear that in most cases, the problems can be traced back to clauses and structures that made the sukuk more like conventional bonds. Furthermore, once default happened, most of the sukuk discussed did not transfer the underlying assets to the sukuk holders. So, in the event of default, due to limited recourse provisions, sukuk holders often had nothing to res ort to, as effectively there were no underlying assets in their ownership. The case studies highlighted the importance of the legal institutions of the country where the collateral is likely to be contested. Interestingly enough, strict adherence to shariah principles would have considerably simplified restructuring because shariah compliance implies a clear allocation of property rights: in sukuk, investors will receive full title to the underlying sukuk assets in distress situations. So the answer to the question we asked, is Islamic Finance failing to deliver on its promises, is a qualified no.

Suggested Citation

  • Sweder van Wijnbergen & Sajjad Zaheer, 2013. "Sukuk Defaults: On Distress Resolution in Islamic Finance," Tinbergen Institute Discussion Papers 13-087/VI/DSF57, Tinbergen Institute.
  • Handle: RePEc:tin:wpaper:20130087
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    References listed on IDEAS

    as
    1. Mohieldin, Mahmoud, 2012. "Realizing the Potential of Islamic Finance," World Bank - Economic Premise, The World Bank, issue 77, pages 1-7, March.
    2. Andreas Jobst & Peter Kunzel & Paul Mills & Amadou Sy, 2008. "Islamic bond issuance: what sovereign debt managers need to know," International Journal of Islamic and Middle Eastern Finance and Management, Emerald Group Publishing Limited, vol. 1(4), pages 330-344, November.
    3. Andreas Jobst, 2007. "The Economics of Islamic Finance and Securitization," IMF Working Papers 2007/117, International Monetary Fund.
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    Citations

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    Cited by:

    1. Paul†Olivier Klein & Laurent Weill & Christophe J. Godlewski, 2018. "How sukuk shapes firm performance," The World Economy, Wiley Blackwell, vol. 41(3), pages 699-722, March.
    2. Kusuma , Ketut Ariadi & Silva, Anderson Caputo, 2014. "Sukuk markets : a proposed approach for development," Policy Research Working Paper Series 7133, The World Bank.
    3. Abdullahi Ahmed Umar & Kabiru Goje & Mahadi Ahmad, 2023. "Combating Rising Energy Poverty with Sunnah-Compliant Orthodox Sukuk Finance," JRFM, MDPI, vol. 16(10), pages 1-19, October.
    4. Abedifar, Pejman & Bouslah, Kais & Qamhieh Hashem, Shatha & Song, Liang, 2020. "How informative are stock prices of Islamic Banks?," Journal of International Financial Markets, Institutions and Money, Elsevier, vol. 66(C).
    5. Paul‐Olivier Klein & Laurent Weill, 2016. "Why do companies issue sukuk?," Review of Financial Economics, John Wiley & Sons, vol. 31(1), pages 26-33, November.
    6. Taoual, Safiyah, 2016. "Sukuk: a potential for stability and development in the GCC," Economics Discussion Papers 2016-7, School of Economics, Kingston University London.
    7. Ebrahim, M. Shahid & Jaafar, Aziz & Omar, Fatma A. & Salleh, Murizah Osman, 2016. "Can Islamic injunctions indemnify the structural flaws of securitized debt?," Journal of Corporate Finance, Elsevier, vol. 37(C), pages 271-286.
    8. Madina Kalimullina & M. Kabir Hassan, 2022. "Default risk as a factor preventing companies from entering the sukuk market," Risk Management, Palgrave Macmillan, vol. 24(4), pages 298-326, December.
    9. Daniela Majercakova & Ludomir Slahor & Alexandra Mittelman, 2017. "Comparative analysis of Islamic bonds and conventional bonds in the chosen countries," Proceedings of Economics and Finance Conferences 4507314, International Institute of Social and Economic Sciences.
    10. Abdul Halim, Zairihan & How, Janice & Verhoeven, Peter & Hassan, M. Kabir, 2020. "Asymmetric information and securitization design in Islamic capital markets," Pacific-Basin Finance Journal, Elsevier, vol. 62(C).
    11. Awais Ur Rehman & Saqib Farid & Muhammad Abubakr Naeem, 2022. "The link between corporate governance, corporate social sustainability and credit risk of Islamic bonds," International Journal of Emerging Markets, Emerald Group Publishing Limited, vol. 18(12), pages 5990-6014, May.

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    More about this item

    Keywords

    Defaults; Islamic Securities; Islamic Finance;
    All these keywords.

    JEL classification:

    • G01 - Financial Economics - - General - - - Financial Crises
    • G15 - Financial Economics - - General Financial Markets - - - International Financial Markets
    • G23 - Financial Economics - - Financial Institutions and Services - - - Non-bank Financial Institutions; Financial Instruments; Institutional Investors
    • G33 - Financial Economics - - Corporate Finance and Governance - - - Bankruptcy; Liquidation
    • P14 - Political Economy and Comparative Economic Systems - - Capitalist Economies - - - Property Rights

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