Role of Signaling in Issuance of Sukuk Versus Conventional Bonds – An Empirical Analysis of the Bond Market in the Uae

The global sukuk market has seen widespread innovations in the last couple of decades which helped sukuk to develop into one of the most acceptable Islamic instruments for raising finance. According to the State of the Global Islamic Economy Report (2018-19), United Arab Emirates (UAE) is ranked second among Islamic economies and Nasdaq Dubai is credited to be the leading international center for sukuk listings (Thomson Reuters, 2018). However, there has been limited research studies on this financing option within the region. Our study is the first to focus on the role of signaling theory driving the financing choice for listed entities in the UAE. The paper makes a significant contribution in light of the recent expansion of sukuk issuances and the fills the lacuna in research carried out in the UAE bond market.We empirically tested our hypotheses on a dataset that covered a sample of 1354 bond issuances over the period 2008 to 2019. We used a logistic regression to distinguish between the issuance of sukuk versus conventional bond. Sukuk structuration leads to information asymmetry which prompts firms to send signals to the capital market. Information asymmetry has been studied in terms of issue specific (maturity and issue size) and issuer specific (firm size, growth, profitability, leverage) variables. Two control variables were included to capture the years under study and the macroeconomic effects of economic slowdown.The banking sector accounted for 93% of bond issuances but contributed only 63% of the bond market in UAE, in terms of issue size. Our data evidenced that non-banking sukuk issuances expanded over the years, with participation from sectors like real estate, oil and gas, logistics and utilities and contributed 50% of issuances in the UAE sukuk market. Typically, firms with smaller assets sizes and higher financing requirements were found to favour sukuk. The banking sector revealed irrelevance of information asymmetry as Islamic Banks were mandated to issue sukuk. Non-financial firms with high profits and high debts were prompted to prefer conventional bonds, in line with the adverse selection mechanism.Our empirical results strongly evidence similarity in firm-specific and issue-specific characteristics amongst all sukuk issuers in the UAE wherein smaller firms with low leverage and high finance requirements were found to favour sukuk. This highlights the importance of information asymmetry in capital structure of all listed firms (banking and non-banking) issuing bonds in the UAE.A noteworthy finding of our research is the increased sukuk issuances in the non-financial sector in the UAE with strong participation by the real estate and logistics companies followed by oil and gas sector. While stock market variables were unable to capture information asymmetry, signals in terms of firm size, leverage and issue size played the dominant role to attract international investors into the UAE bond market. The result has strong implications for the UAE Government to develop a favourable regulatory environment for a robust sukuk market that would facilitate alternative financing options for UAE companies.Although UAE’s sukuk market has existed for more than a decade, scant research has been carried out. Few studies exist for the GCC region that either concentrated on stock market reactions to issuances of Islamic versus conventional bonds or studied capital market characteristics of non-financial entities alone. This is the first study to focus on signaling theory and information asymmetry playing a role in the capital structure of all listed firms (banking and non-banking) issuing bonds in the UAE