|01-22-2015, 05:47 PM||#1|
Standard & Poor`s updates criteria for rating sukuk
Rating agency Standard & Poor’s (S&P) has updated its methodology in evaluating risk for Islamic bonds (Sukuk) to differentiate the treatment between issuers and sponsors.
As sukuk are structured to avoid interest payments, they tend to be more complicated than conventional debt; Sukuk mostly entail special-purpose-vehicles (SPVs) that issue the paper and then advance the proceeds on to the entity raising money.
The new criteria describe the situation in which S&P rates sukuk at the same level at the rating of the sponsor.
Sukuk rated by S&P provide contractual commitments by a sponsor to make payments that, in addition to the underlying asset’s cash flow, will cover the principal amounts and periodic distribution of the instrument.
If the cash flows are not fully covering those amounts, S&P’s terms and conditions provide for dissolution and redemption.
Any missed payments will be then funded through an indemnity from the sponsor, where its contractual commitment for payments towards the SPV will be treated as a financial obligation.
The sponsor’s failure to meet its financial obligations will result in a default ‘D’ or ‘SD’ issuer credit rating on the sponsor. Under the new criteria, sukuk ratings will not be upgraded nor downgraded, but a rating might be withdrawn if criteria aren’t met.
Historically, defaults of sukuk are rare to happen, but S&P’s new criteria would help markets obtain a better understanding regarding the contractual responsibilities and obligations of the parties involved.
The market uncertainty over that can lead to mispricing of sukuk, most importantly for issuers with non-investment grade ratings.
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