Abstract
Despite the significant growth of the Islamic financial sector and its importance to the economy, there is a notable gap in the literature regarding their Credit Ratings (CR), which is reflected in the limited number of rated Islamic Financial Institutions (IFIs). Accordingly, the three primary objectives of this thesis are: (i) provide insight into the gaps in financial performance that IFIs’ decision-makers need to address prior to soliciting a CR; (ii) highlight the significant financial factors that can upgrade low and medium-rated IFIs and maintain the performance of highly-rated ones; and (iii) underline the moderating effect of IFIs’ size on the relationship between financial dimensions and CR level. This is achieved by comprehensively examining the effect of Capital adequacy, Asset quality, Management quality, Earnings management, and Liquidity management (CAMEL) on CR status (i.e., rated or not rated) and CR level provided by Moody’s, Fitch, and CI. In addition to the CAMEL pillars, the research investigated the effect of availability and reliance on Investment Account Holders (IAHs) and Sukuk financing in 143 IFIs operating in 29 countries between 2010 and 2019, giving a total of 1,430-year observations, of which only 270-year observations were rated by Moody’s, Fitch, or Capital Intelligence (CI). The researcher utilises univariate tests and multivariate analysis (binary logistic regression, ordinal logistic regression, generalized linear mixed models, and probabilistic neural networks) to examine the associations between the CAMEL and CR.It has been revealed that non-rated IFIs and low-rated ones are small in size compared to rated and highly rated ones, and each CRA implemented a different rating strategy depending on the market setups in which they operate, and the size of the institution being rated. Accordingly, it has been found that asset size is the most significant factor that affects IFIs’ CR status, followed by their management efficiency, particularly operating income and expenses. Secondly, non-rated IFIs suffer from the asymmetric information problem, creating a competitive edge for the rated ones to grow. They are more liquid and have higher asset quality than their counterparts. It was concluded that non-rated IFIs depend more on financing short-term projects rather than long-term ones, which explains their high asset quality and high liquidity position. Moreover, they are highly capitalised and also have high operating and non-operating expenses, which affects their CR status negatively. Based on these findings, it is concluded that self-selection bias holds.
Furthermore, it is evident that the most important factor for the three agencies in providing high CR is the IFI’s asset size. When it comes to the second and third criteria, Moody’s weighs high asset quality and low Return on Equity (ROE). Fitch weighs high asset quality, high management quality, and liquidity creation in the economy over IFIs’ liquidity risk. CI weights high management quality and high capitalisation. Moreover, it has been found that the moderating effect of the IFI’s size differs across the CRAs. For instance, the IFI’s size weakened the relationship between Moody’s CR and asset management, ROE, and IAHs. Meanwhile, it strengthens the relationship between CI ratings and capitalisation level, asset management, ROE, and liquidity management. With respect to the Fitch rating, the results were mixed. As such, Fitch gave more weight to large IFIs’ capitalisation level, medium-sized IFIs’ management quality, and, for small IFIs, their ROE and IAH. The test results were aligned with portfolio theory and the benefits associated with big size, yet there is evidence that they depend on the Too-Big-To-Fail policy. On that account, CRAs were more cautious in providing CRs to large IFIs. Therefore, the findings of this study are valuable for bank policymakers, academicians, and practitioners.
| Date of Award | 17 Jun 2024 |
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| Original language | English |
| Supervisor | Shabbir Dastgir (Main Supervisor) & Erhan Kilincarslan (Co-Supervisor) |