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Monday, 20 August 2012

Rating sukuk criteria updated, no rating impact

Link to Fitch Ratings' Report: Rating SukukAug 16 - Fitch Ratings has updated its Rating Sukuk criteria. The updated do not contain any significant changes and will have no impact on existing ratings.

These criteria apply to originator-backed (also called asset-based)
sukuk structures, in which investors rely upon direct support features (i.e., repurchase agreements and liquidity arrangements) as well as upon the originator/issuer's ability to generate profits with the assets. The criteria do not apply to asset-backed sukuk, which rely on the underlying collateral.

The report outlines Fitch's approach to rating sukuk, which are often referred to as "Islamic bonds" and represent undivided shares in the ownership of tangible assets, including the assets of particular projects or investment activities, and usufruct  (the right to use the assets). Sukuk constitute a beneficial ownership interest, not a debt. Each holder is entitled to an agreed return and will bear any losses in proportion to the certificates owned.

Fitch analyses the structure of the underlying transaction(s) to understand and evaluate the contractual cash flows. Sukuk are typically structured around contractual arrangements formulated according to Islamic law ("sharia") and have been developed as an alternative to traditional debt instruments. Sukuk are based on traditional Islamic contract structures such as ijara  (similar to leasing).

Instead of interest, which is unacceptable under sharia law, an investor receives a share of the profits generated by the underlying assets being financed. Fitch believes that these instruments can be rated, and, although the contractual structures referred to above add to the apparent complexity, the agency's current rating methodologies and rating scales can accommodate this.

In the case of originator-backed/asset-based sukuk, Fitch looks through the structure of the sukuk to ensure that there is recourse to the originator of the transaction. The rating is benchmarked to the rating of the originator and, in the case of a senior unsecured obligation, the rating would typically be in line with the originator's Issuer Default Rating.

Ratings assigned to sukuk do not imply any confirmation that the sukuk are sharia-compliant. While there is broad agreement on sharia principles, there are differences of interpretation which the agency would not be in a position to anticipate or assess.

While the report focuses on Fitch's recent experience, Islamic finance is in continuous evolution. Fitch will continue to monitor developments and will review its criteria to reflect any future changes.
(Reuters / 16 August 2012)

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