Comparative Analysis of Risk Between Conventional Bonds and Sukuk Using Duration-Normal VaR

Purpose: Islamic finance and Sukuk have garnered so much interest in recent times that not just Islamic countries, but also Western countries have started trading in Sukuk. This research paper aims to assess whether Sukuk can bring benefits to investors in terms of reduced market risks when added to a portfolio of conventional bonds. Methodology: The research employed the Duration-Normal Value-at-Risk (VaR) Model. Findings: Using the Duration-Normal VaR model, it has been found that the market risk associated with the mixed portfolio through the addition of Sukuk to the conventional bond was significantly lower than that of a pure bond portfolio. This could be explained by the low correlation between the conventional bonds and Sukuk. The accuracy of the Duration-Normal VaR model has been confirmed by the Kupiec Proportion of Failure Test. Originality: This paper provides a different view on applying the Value-at-Risk (VaR) approach for assessing the market risk associated with Islamic and conventional bonds and further applies a backtesting procedure to examine the accuracy of the model.