PRepared by:

kiran mehfooz, ERP: 05805

Aqsa Marvi, ERP: 06082
usman sheikh, ERP:
m uzair, ERP: 06086

SIR AHMED ALI SIDDIQUI

Contents
TYPES OF BONDS..................................................................................................... 2
DEBT SECURITIES................................................................................................. 3
BANKS INVESTMENTS IN GOVERNMENT SECURITIES.....................................5
ROLE OF ISLAMIC BANKING IN GOVERNMENT SECURITIES...........................6
DISTINGUISHING Sukuk FROM CONVENTIONAL BONDS................................8
RISK EXPOSURE OF ISLAMIC AND CONVENTIONAL BONDS.........................10
CONCLUSION....................................................................................................... 11

ISLAMIC BANKING& FINANCE

SIR AHMED ALI SIDDIQUI

TYPES OF BONDS
Bonds can be classified in the following categories:
Fixed rate: Fixed rate is an interest rate that remains fixed either
for the entire term of the bond or part of the term. This category
includes bonds with fixed coupons.
Floating rate: Floating rate is an interest rate that is allowed to
rise up and down in sync with the market or together with an
index. Also regarded as variable interest rate.
In the financial market of Pakistan, bonds are either issued by the
Government or Corporate entities.
a. Government Bonds
Government bond is a debt security loaned by a government to
assist government spending, most often issued in the countrys
local interest.
The various types of Government bonds issued by the Govt. of
Pakistan are as follows:
Pakistan Investment Bonds
US Special Dollar Bonds
Wapda Bonds
National Saving Bonds
and Sukuk
b. Corporate Bonds
Corporate Bond is a debt security which is issued by company and
sold to investors to meet its financial requirements. In Pakistan
this is commonly known as Term Finance Certificate (TFC).
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Corporate Bonds are normally issued for a specified time period

with an assurance to return the principal amount of the bond
money including interest to the bondholder.
When someone buys a bond, he/she is lending money to the
company that issued it. The company ensures to return the
money, on a specified maturity date. Till that time, it also pays a
stated rate of return, which usually occurs semiannually. The
interest payments collected from corporate bonds are taxable.
Unlike shares, bonds do not provide an ownership interest in the
issuing company.

DEBT SECURITIES
A. Treasury Bills (T-Bills)
Treasury bills are zero coupon instruments issued by the
Government of Pakistan and sold through the SBP via fortnightly
auctions. Salient features are:
Issued in tenors of 3, 6 and 12 months;
Denominated in multiples of PKR 5,000;
A 10% withholding tax is deducted at source by SBP upon
maturity;
Non-paper instrument;
Negotiable instruments and have an active secondary
market;
Redemption of the face value upon maturity is guaranteed
by GoP.
B. Pakistan Investment Bonds (PIBs)
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PIBs are long-term bonds issued by the Government of Pakistan

and sold through SBP via periodic auctions. Salient features are:
Issued in tenors of 3, 5, 7, 10, 15, 20 and 30 years;
Denominated in multiples of PKR 100,000;
PIBs of different tenors bear different coupon rates which are
payable semi-annually;
A 10% withholding tax is deducted at source by SBP on the
interim coupon payments made;
Non-paper instrument;
Negotiable instruments and are traded in the secondary
market;
Redemption of the face value upon maturity and periodic
coupon payments are guaranteed by GoP.
C. Government Of Pakistan Ijarah Sukuk (GoP Ijarah
Sukuk)
GoP Ijarah Sukuks are medium term Shariah compliant bonds
issued by the Government of Pakistan and sold through SBP via
periodic auctions. Salient features are:
Currently being issued with 3 years to maturity;
Denominated in multiples of PKR 100,000;
Floating rate instrument;
Coupon rate is linked to a weighted average of the 6 month
T-Bill rate and is payable semiannually;
A 10% withholding tax is deducted at source by SBP on the
interim coupon payments made;
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Non-paper instrument;
Negotiable instruments and are traded in the secondary
market;
Redemption of the face value upon maturity and periodic
coupon payments are guaranteed by GoP.

BANKS INVESTMENTS IN GOVERNMENT

SECURITIES
Banks share in overall investments in the government securities
has risen to 91 per cent suggesting high dependence of the
economic managers on bank borrowings for running government
affairs.
The State Bank of Pakistan in its second quarterly report of this
fiscal year stated that banks investments in government debt
securities stood at Rs6.33 trillion out of the total Rs6.96tr as of
Dec 31, 2015.The overall investment growth in the government
papers moderated to 3pc in October-December quarter as
compared to the average growth of 8.6pc during the first three
quarters of calendar 2015.
Banks invested more in Pakistan Investment Bonds (PIBs) and
Ijara sukuks as compared to net divestment in Market Treasury
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Bills (MTBs) according to a recent report on the study of

securities.
The trend continued in the new calendar year as the investors
offered Rs266bn and the government raised Rs152bn against the
target of Rs50bn in the latest PIBs auction.Three- and five-year
PIBs have been attracting maximum investments at 6.3pc and
7pc, respectively, slightly higher than the policy interest rate of
6pc.
During the quarter, mostly three- and five-year bonds were picked
up by the banks, of which, around 71pc have been placed in
available for sale category.
This shift in banks preference for long-term government bonds
appears to be motivated by their perception of lower future
interest rate environment (due to falling inflation),
Banks investment in PIBs increased from 51.2pc in JulySeptember to 52.6pc in October-December 2015. In contrast,
share in MTBs reduced from 42.4pc to 40.2pc during the same
period.The Islamic banks have also chosen the same path by
asking the government to issue maximum Islamic bonds. The
stock of Ijara sukuk stood at Rs210.3bn as of Jan 31, 2016.
From the supply side, the governments choice to raise longerterm debt may be driven by maturity preference (to avoid rollover risk) and benefiting from low cost funds (at prevailing low
interest rates)
Government securities represent more than 86% of their total
investments, large commercial banks increased their investment
portfolio substantially in 2014.A review of the recently released
annual reports of the five largest commercial banks shows the
surge in their investments outpaced the increase in their
advances during 2014.Government securities, such as treasury
bills, Pakistan Investment Bonds (PIBs), Eurobonds and Sukuks,
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constituted 86.4% of nearly Rs2.9 trillion investments that appear

on the balance sheets of Habib Bank (HBL), MCB Bank, United
Bank (UBL), National Bank (NBP) and Allied Bank (ABL) at the end
of 2014.

ROLE OF ISLAMIC BANKING IN GOVERNMENT

SECURITIES
The AAIOFI (Accounting and Auditing Organization for Islamic
Financial Institutions) is a nonprofit organization, established in
March 1991 to maintain and promote Sharia standards in the
Islamic financial industry. Since its establishment," it has been
supported by institutional members (155 members from 40
countries, so far) including central banks, Islamic financial
institutions, and other participants from the international Islamic
banking and finance industry worldwide.
The AAIOFI published a standard in May 2003 on "investment
Sukuk" which opened the door for the Islamic financial product
(Chance, P. 10). Since then, the sukuk industry has mobilized all
short and long-term savings and idle funds of Islamic investors as
well as providing capital and liquidity to the capital demanders
such as business entities and governments. The Sukuk market
experienced a great growth between 2001(USD 500 million) and
2007(USD 60 billion). However, in 2008 the number of sukuk
issued globally declined for the first time by over 50%as
compared with 2007. Market experts and commentators basically
blame:
a) the global financial crisis
b) lack of standardization in the market
c) recent high- profile Sukuk defaults by originators
Sukuk (plural of sakk) are referred to as Islamic bonds but the
correct translation of the Arabic word of Sukukis Islamic
Investment Certificates. Under Sukuk structure, the Sukuk
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holders (investors) each hold an undivided beneficial ownership in

the Sukuk assets.
These Sukuk represent the proportional ownership of an existing
asset or a pool of diversified assets, and a pledge against existing
or future cash flows generated from these assets for a specified
period of time.
The risk and return associated with underlying assets and these
cash flows are passed to sukuk holders. These assets may be
tangible or intangible, existing or described with deferred
delivery, usufruct or services. Under Sukuk structure the
investors, sukuk holders each hold an undivided beneficial
ownership in the underlying assets. There are two types of
Sukuk,asset based and asset backed. Under the asset based
Sukuk, the Sukuk holders have beneficial ownership in the asset.
The Sukuk holders have recourse to the originator if there is a
shortfall in payments. The beneficial ownership is a legal term
where specific property rights, such as its use and title belongs to
a person even though legal title of the property belongs to
another person. A common example of beneficial owner is the
owner of funds held by a nominee bank or for stocks held in the
name of brokerage firm. Under asset backed Sukuk, the Sukuk
holders owned the asset and as a result do not have recourse to
the asset but to the originator if there is a shortfall in payment.

ISLAMIC BANKING& FINANCE

SIR AHMED ALI SIDDIQUI

DISTINGUISHING Sukuk FROM

CONVENTIONAL BONDS

Asset ownership

Investment
criteria

Issue unit

Issue price

Investment

Conventional
Bonds

Sukuk Bonds

Bonds dont give

the investor a share
of ownership in the
asset, project,
business, or joint
venture they
support. Theyre a
debt obligation from
the issuer to the
bond holder
Generally, bonds
can be used to
finance any asset,
project, business, or
joint venture that
complies with local
legislation.
Each bond
represents a share
of deb

Sukuk give the

investor partial
ownership in the
asset on which the
sukuk are based

The face value of a

bond price is based
on the issuers
credit worthiness
(including its
rating).
Bond holders

The asset on which

sukuk are based
must be shariacompliant.

Each sukuk
represents a share
of the underlying
asset.
The face value of
sukuk is based on
the market value of
the underlying
asset.
Sukuk holders

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SIR AHMED ALI SIDDIQUI

rewards and risks

Effects of costs

receive regularly
scheduled (and
often fixed rate)
interest payments
for the life of the
bond, and their
principal is
guaranteed to be
returned at the
bonds maturity
date.
Bond holders
generally arent
affected by costs
related to the asset,
project, business, or
joint venture they
support. The
performance of the
underlying asset
doesnt affect
investor rewards.

receive a share of
profits from the
underlying asset
(and accept a share
of any loss
incurred).

Sukuk holders are

affected by costs
related to the
underlying asset.
Higher costs may
translate to lower
investor profits and
vice versa.

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RISK EXPOSURE OF ISLAMIC AND CONVENTIONAL

BONDS

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SIR AHMED ALI SIDDIQUI

CONCLUSION
In this report, we have compared and contrasted the conventional
bonds with the Sukuk (Islamic bonds) from different points of
view, such as risk/return and structural framework. To fulfill this,
we have first concentrated on Islamic finance and its main
features that differentiate it from conventional system.
Our findings suggested that these two bonds successfully solve
the same common financial problem: raising capital for needed
entities, being corporations or government. However, there are
various fundamental differences between the two that made us to
believe that these securities offer quite different solutions to the
same financial problem.
The conventional bonds are structured on the basis of debt while
Sukuk are equity based instruments. Which method of financing
should be considered, is a matter of choice and whether the bond
issuer and/or bondholder would like to benefit from the growing
market share of the religiously conscientious financial market. The
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SIR AHMED ALI SIDDIQUI

use of Sukuk along with conventional bonds will create a business

opportunity for bond issuers. There are a large number of affluent
Muslim investors all around the globe seeking an opportunity to
receive a decent return that also pleases God.
Sukuk is an ideal choice as compared with the conventional bond
for the Islamic investors. The reason being the Sukuk are Sharia
compliant instruments, indicating that they are free from
unpermitted transactions. Nevertheless, one can foresee that the
Sukuk issues provide a far greater return and financial security
than the convention bonds. Bond issuers also may enjoy from a
broader market place for their bond products. The Sukuk issues
are available to all financial institutions and investors regardless
of their religious background, believes, and faith.

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