An Introduction to Islamic Finance: Theory and Practice

268 AN INTRODUCTION TO ISLAMIC FINANCE

bonds in their payoffs, a currency swap can be constructed by utilizing the
sukuk structure.
For example, suppose party (A) is well - established and well - known in ¥
capital markets and is thus able to raise funds through sukuk in ¥ at attrac-
tive rates. However, its funding objectives are to borrow in $ to match its
liabilities but its cost of funding in $ is higher. At the same time, party (B) is
able to raise funds through sukuk in the $ market at attractive rates because
of its established track record and credit standing, but its funding objec-
tives are to borrow in ¥. Following the theory of comparative advantage,
both parties issue sukuk in the respective markets in which they have the
comparative advantage and then agree to swap cash fl ows to achieve their
respective funding objectives.
The following steps can be taken to create a currency swap using ijarah -
based sukuk:
At the time of settlement (T 0 ):
Step 1: Party (A) issues ijarah sukuk in ¥, and party (B) issues an ija-
rah sukuk in $. The ijarah sukuk are selected in this case, rather than ones
that are salam - based, because they allow the possibility of trading in the
secondary markets.

PARTY (A)

PARTY (B)

FINANCIAL INTERMEDIARY

LIABILI

TIES

ASSETS

$ Investment

Certificates

¥ Investment

Certificates

Partnership in

¥ Ijarah

Partnership in

$ Ijarah

Receive ¥ cash flows from Party (A)

Pass ¥ cash flows

to Party (B) against

$ investment.

Pass $ cash flows to

Party (A) against ¥

investment

Receive $ cash flows from Party (B)

FIGURE AC2 The role of the intermediary in a partnership - based currency swap