The Theory and Practice of Profit Sharing Investment
Foundations of Islamic Finance series
Edited by Mohamed Ariff, Munawar Iqbal and Shamsher Mohamad
Chapter 2: Sukuk Securities, their Definitions, Classification and Pricing Issues
Mohamed Ariff, Meysam Safari and Shamsher Mohamad 2.1 INTRODUCTION Islamic securities are specially tailored financial products that conform to a given set of legal-common-law-based (shari’ah) financial transaction principles, which are deemed strictly applied when designing financial contracting terms covering such products. These principles are quite different from those used in the design of conventional securities. The principles guiding the design of these securities evolved over some two and a half centuries without reference to such doctrine-based principles as are applied in designing Islamic financial products in historical times. From the time fractional reserve banking established a strong acceptance by regulators around ad 1800 some four decades after the Papal edict made interest rate-based lending permissible by the Roman Church, the lion’s share of production lending that existed for millennia on profit-sharing slowly gave way to a one-way contract where the profits and risk of a production loan became divorced. The entrepreneurs had to take the full risk of a venture, not the lender. This is not the case for the production of Islamic financial securities. The products thus designed under the Islamic label are found in publicly-traded bills, shares, debt-like sukuk and derivative markets or as privately-traded in financial institutions. Broadly defined, Islamic financial products could be classified into four types: (i) musharaka securities with ownership-and-control in the entire firm’s assets via share ownership, which makes this class very closely similar to common share securities with claims to profits only if profits are earned after sharing in the risk of...
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