Global Islamic Finance Magazine October 2012 by Business Media Group (UK)

G LO B A L

Islamic Finance October - November 2012

nk Eth ing ica & l Fin an ce

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A GOLDEN OPPORTUNITY FOR YOUNG ENTREPRENEURS

Part 2 GIF’s World Islamic Finance Investment Review

The Rise of Islamic Finance in Japan

P. 22

Innovative Ways to Market Your Islamic Financial Product Successfully

P. 48

P. 28

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Contents;QWERTYUIIOPDFHJUIIOPDFHJJ News

9 Islamic Finance News islamic Finance 14 Islamic Finance: A Golden Opportunity for Young Entrepreneurs

If you do have a business idea or plan that you want to invest your time and money on within the Islamic finance and banking industry it is firstly important to be acquainted with the key Shariah financing principles governing Islamic finance before making any informed decisions on your business plan ...

52 Islamic Finance and Global Financial Crises: How to Keep Finance on Track?

We think that our puzzle solving clue (hypothesis) to which we can attribute the crisis is the deviation from the basic assumption (or philosophy) driving investment as society welfare and growth tool on the longterm, to become a wild pursuit of short-term gains through orienting financial innovations and the laxity of regulations to serve such new target-...

62 Islamic Finance and International Financial Regulation

The practice of Islamic finance is based on passages of the Qurâ&#x20AC;&#x2122;an, prohibiting Muslims from engaging in forbidden economic activities, which shaped early Islamic commercial practices. These activities consist most notably of riba, closely translated as interest, and gharar, closely translated as uncertainty....

Islamic Investment 22 Part 2 GIFâ&#x20AC;&#x2122;s World Islamic Finance Investment Review

Islamic Finance is unprecedented in attracting global recognition from countries around the world which are eager to tap into the lucrative Islamic financial market. With the sector being estimated to reach $2 trillion dollars by 2012 the market is spearheading ahead. Popular commodities such as Sukuk (Islamic bonds) and Takaful (insurance) is creating abundant opportunities for both Western and Muslim populated countries on a global scale... Integrum...

Marketing 28 Innovative Ways to Market Your Islamic Financial Product Successfully

There are a number of ways in this day and age of marketing a product and attracting our target market. With the growth of technology including social networking reaching a wider audience has become easily accessible if it is done in the correct way and marketed properly....

Interview 38 Interview with Dr Johannes Engels, Senior Advisor, Federal Financial Supervisory Authority, Germany

In the last decade, a German federal state was the first European issuer of a 100 million Euro asset backed Sukuk, structured as a Sukuk al Ijarah, which is listed on the Luxembourg Stock Exchange...

Islamic Banking 43 Thought Leadership Piece on Egypt SWFs and Egypt:A Fresh Look at Infrastructure Funding and Investments The popular uprisings against autocratic governance, which began in Tunisia, became a revolutionary spark for the democratic aspirations of people in the Middle East, including Egypt...

4 Global Islamic Finance

October - November 2012

World Islamic Finance Review

48 The Rise of Islamic Finance in Japan

The promotion and implementation of Islamic finance in Japan has become more prominent in recent years...

Investment 68 Islamic Finance as a Structured Products Business Line: Acute Complexity and the Need for StandardizationStructured products, on the other hand, are a quintessentially modern and secular area of finance...

Market Review

33 Egypt Islamic Finance Plans Include Boosting Waqf

It had been reported that the Freedom and Justice Party, the parliamentary arm of Egyptâ&#x20AC;&#x2122;s Muslim Brotherhood,...

34 Islamic Investments Global Demand

35 Indonesia Flourishes in Islamic Finance

36 Islamic Banking an Ethical Option in South Africa

Islamic banking has been growing in demand in South Africa from both Muslims and Non Muslims who recognise the ethical methods and principles that govern Shariah compliant finance...

40 Islamic Microfinance in the UK

The Islamic Development Bank (IDB) is exploring social and financial inclusion opportunities in the UK including the provision of community-based microfinance,...

42 New Islamic Banking Opportunities in Morrocco

Moroccoâ&#x20AC;&#x2122;s new banking laws are expected to facilitate the use of Islamic finance in the country and encourage a wave of new investment and business....

76 Event Review 78 Book Review 80 Events Calendar 82 Business Directory 84 Glossary 86 In the Next Issue

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Editor-in-Chief Farhad Reyazat PhD in Risk Management

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Prof Dr Khawaja Amjad Saeed, Principal of The University of the Punjab, Pakistan Prof Habib Ahmad, Sharjah Chair in Islamic Law and Finance in the School of Government and International Affairs at University of Durham, United Kingdom Prof Rodney Wilson, Professor in the School of Government and International Affairs at Durham University, United Kingdom Prof Humayon Dar, Chief Executive Officer at BMB Islamic UK, United Kingdom Prof Muhammed Shahid Ebrahim, Professor of Islamic Banking and Finance at the Bangor Business School, United Kingdom Prof Andrew White, Director of International Islamic Law & Finance Centre, Associate Professor of Law, Singapore Management University, Singapore Prof Simon Archer, ICMA Centre, Henley Business School, University of Reading, United Kingdom Hailey College of Banking & Finance, University of the Punjab Dr Majdi Ali Ghaith, King Saudi University Assistant Professor Business Administrator Department, Saudi Arabia Dr Abu Umar Faruq Ahmad, School of Law University of Western Sydney Australia, Australia Dr Julien Pelissier, Lecturer in Islamic economics’ law, France Dr Alberto Brunoni, Founder and Director of AASAIF, Italy Dr Aznan Hassan, Shariah scholar Bursa Malaysia, Malaysia Dr Zukifli Hassan, PhD Research Scholar at University of Durham, United Kingdom

Dr Mohammed Obaidullah, Economist at the Islamic Research and Training Institute (IRTI) of the Islamic Development Bank, Saudi Arabia Dr Amal El-Kharouf, Head of Research and Consultancy Department at University of Jordan, Jordan Dr M.Kabir Hassan, Associate Professor and Associate Chair of the Department, University of New Orleans, USA Dr Abdelhafid Benamraoui, Westminster Business School, United Kingdom Dr M. Ishaq Bhatti, Faculty of Law and Management, La Trobe University, Australia Mughees Shaukat, PHD researcher and Assistant Researcher in INCEIF & ISRA, Malaysia Warren Edwards, CEO of Delphi Risk Management, United Kingdom John Sandwick, Islamic Wealth & Asset Management Independent Consultant, Switzerland Brian Kettel, Director at Islamic Banking and Finance Training, United Kingdom Salina Hj. Kassim, Department of Economics at International Islamic University Malaysia, Malaysia Kasim Randeree, Saïd Business School, University of Oxford, United Kingdom Abbas J. Ali, School of International Management Eberly college of Business, Indiana University of Pennsylvania, USA

Contributors Muddassir Siddiqui, UAE Michael Grifferty,UAE Alberto Brugnoni, Italy Haissam Arabi, UAE Dr. Murat Ünal, Germany John Bates,United Kingdom

Abdul Aziz Al Ghurair, UAE Ahmad Mohamed Ali Al Madani, Saudi Arabia Badlisyah Abdul Ghani, Malaysia Prof. Nahed M. Tahe, Bahrain Mansoor Durrani, Saudi Arabia

Thomas A. Timberg, Indoensia Dennis Cox,United Kingdom Anouar Adham, United Kingdom Beebee Salma Sairally, Malaysia Mohamad Zaid Mohd Zin, Malaysia

Arti Sangar, UAE Dhafer Salih Alqahtani, Bahrain Rushdi Siddiqui, USA Shaher Abbas, United Kingdom

Editing and Proofreading Colette Sensier

Carina Lewis

Executive staff Agnes Gradzewicz David Smith Gareth Platt Simon Hartshorne

Amy Thompson Nelly Ahmedova Ritika Banerjee Ajay Surti

Beata Jagorow Patricia Ke-Hsuan Tsai Yassine Chaachaa

Top Brand Ambassadors Saleem Uddin Faisal, Bahrain Amjad Suri, India Syed Ilyas, India Mahamoud El Aref, Egypt Shuhratbek Iskandarov, Germany Basil Armoush, Jordan Bouhssine Ben Jadda, Morocco

Auwalu Ado, Nigeria Abdulrahman Usman, Nigeria Adeeb Zaki, Pakistan Asim Hameed, Pakistan Muhammad Farrukh Saleem, Pakistan Said Bunu, Qatar

Farhaa Xha, Saudi Arabia Mirak Farook, Sri Lanka Kareem Hammour, UAE Muhammad Zeeshan, UAE Majd Ghanem, UAE Ichrak Bennani, UAE Muhammad Athar Khan, UAE

Ichrak Bennani, UAE Anees Razzak, United Kingdom Dian Kartika Rahajeng, United Kingdom

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6 Global Islamic Finance

October - November 2012

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Editorial Letter Are Islamic finance products beneficial only to Muslims? It is a religious issue for Muslims in choosing the right financing methods, as Riba is a serious issue in Islam, however, this should not be a deterrent factor for non-Muslims as the principles in Islamic finance are not religious issues. The principle of Islamic Finance is about transparency, ethics and fairness, as well as promoting entrepreneurship and sharing of risks and returns between financiers and entrepreneurs. You do not have to be a Muslim to appreciate the beauty of Islamic finance. But what is crucial in Islamic finance is for the major players to be more proactive in creating market awareness.

„

‘’The principle of Islamic Finance is about transparency, ethics and fairness, as well as promoting entrepreneurship and sharing of risks and returns between financiers and entrepreneurs

Situational awareness is a state of knowledge that precedes decision-making and performance, it involves perceiving critical factors in an environment, understanding their meaning, and projecting what can happen to a system in the near future. Accounts of expert financial decision-makers suggest that these individuals often possess acute situational awareness of markets. Essentially, financial market awareness is one’s sense of the current market environment. A new and rising trend in Financial Markets today is the rapid growth of Islamic securities. Getting an in-depth understanding of Islamic Finance markets and the workings of Islamic securities will show us how the Islamic market continues to develop and open up new structures. More investors regardless of their religious views should gain a greater understanding of the dynamics of Islamic finance, as well as the procedure of Islamic issues: why they are introduced, who issues them, how this is done and how in demand they are in the market. Some questions that can help assess Islamic Finance Market awareness include: How well do you understand current Islamic Finance Market terms and jargon? What are the key factors currently at work in the Islamic Finance Market? How are these key factors interacting to influence important outcomes like prices? What are the levels and trends of key metrics that reflect the current Islamic Finance Market landscape? What market scenarios are likely in the near future?

To write the letter to the editor, send an email to editor@globalislamicfinancemagazine.com.

8 Global Islamic Finance

October - November 2012

The importance of Islamic finance market awareness may seem ‘obvious’, but consider how often could individuals or corporations make important financial decisions while possessing a weak understanding of Islamic finance market context. Answers to such questions help gauge your sense of “what’s going on” in the Islamic Finance market. Situational awareness is particularly important due to its conceptual position as a key antecedent to effective decision-making. In the context of Islamic finance, this means that the more familiar you are with the Islamic Finance environment, the better your financial decision-making process and outcomes. Over the last decade, there has been a substantial increase in the number of new initiatives to develop and improve the concept of Islamic Financing for potential investors, financial market players and other parties. Organising significant numbers of conferences and seminars and other activities have emerged with the goal of improving the social, economic and environmental impact of Islamic Finance products. These initiatives try to increase the efficiency and effectiveness of the Islamic Finance market to ensure that the market continues to operate well into the future and secure the needs of clients in compliance with Sharia requirements, but we still have a long way to go. We hope that Global Islamic Finance magazine could play a leading role in the long run and be part of creating market awareness in the Islamic finance field. Global Islamic Finance magazine is going to pave the way for market awareness, find answers for some of the questions in the market and discuss the new issues in this young and flourishing industry

Farhad Reyazat PhD in Risk Management Editor in Chief

News

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Islamic finance news Islamic Finance Talent much Needed The human and talent factor is very much needed to ensure that Malaysia consolidates its position as a global Islamic financial hub. “Islamic finance has grown rapidly in recent years and so has the demand for knowledge,” Islamic Banking and Finance Institute Malaysia (IBFIM) chief executive officer Datuk Adnan Alias said. “This is where IBFIM comes in as the industry’s partner in talent development, especially in the areas of banking, capital market, takaful and wealth management,” he said at a media familiarisation tour of IBFIM’s Knowledge Management Centre (KMC) here yesterday. IBFIM is an industry-linked business entity under Bank Negara, which focuses on the development of human capital for the Islamic financial service sector. “I believe in order for Islamic finance to grow, we need more and more talent and as far as I’m concerned, that talent can be from any field or background. “At IBFIM, we are primed to nurture this curiosity and talent so that the industry can benefit,” said Adnan. He noted that IBFIM had its own booskstore within the KMC, with a niche selection of about 700 titles on Islamic finance from local and international publishers with prices ranging from RM10 to RM2310. Being a publishing house, KMC also contributed to the enhancement of knowledge by publishing “niche and rare” topics serving the needs of practitioners, researchers, academics, regulators and policy makers, Adnan said. Abu Dhabi Islamic Bank is First UAE Bank to Launch Iraq Operations Abu Dhabi Islamic Bank (ADIB), a top-tier Islamic financial institution, today announced the expansion of its regional footprint by opening its first branch in Iraq. It becomes the first UAE-based financial institution to receive a full operations bank-

ing license from the Iraqi Central Bank and to start operations from Iraq. The first fullyfledged ADIB branch is located at Baghdad and is led by Jawdat Mahmoud Jawdat. ADIB is now poised to support and guide UAE and GCC investments in Iraq and its surrounding areas, it will also develop the Islamic finance industry in Iraq by bringing best in class Islamic banking products. During the initial months of operations, ADIB’s market entry strategy will see it serve corporate and private banking customers. It will offer corporate finance, investment banking and treasury products to the Iraq market. In addition, ADIB will offer traditional commercial banking services such as international trade finance solutions. Unveiling the bank’s Iraq expansion plans, Tirad Al Mahmoud, CEO of ADIB said: “Iraq has been on our agenda for some time now and we believe that this is the opportune time to launch our presence there. The country is on a comeback trail, business conditions have improved considerably and it’s the right time to get in.

annum. The share of Kazakh investors accounted for 38% of total output. Islamic financial instruments has begun to appeal to Kazakhstan and at the end of the year, economists expect further growth in this segment of the financial market. A successful debut issue of 5-year Sukuk AlMurabaha by the Kazakhstan Development Bank gives rise to optimistic forecasts. The output of shares equaled to 11.350 billion with a 5.5% interest rate per annum. Zaratkazy Nurpiissov, Chairman of Board, Fattah Finance JSC said ‘‘You are aware of the accelerated industrial and innovative development programme of Kazakhstan. I would like to say that the sukuk, which is the Islamic bond, is very convenient for the financing of infrastructure projects, since the principle of sukuk issuing is the use of real assets. For example, the government is now thinking about the financing of factories, roads, various infrastructure projects, and the sukuk is very well suited for this.’’

Its vast oil reserves, a great rebuilding and infrastructure development effort and a growing population present great opportunities for growth. We aim to play a pivotal role in the development of its economy.”

The share of Kazakh investors accounted for 38% of the total demand for Islamic bonds of the Kazakhstan Development Bank. 82% of these shares have been purchased by pension funds and clients of brokerage firms purchased 18%.

ADIB was also granted approval from Central Bank of Iraq to confirm Iraq oil export letters of credit issued by multinational oil corporations, multinational commodities and oil traders and financial institutions that issue letters of credit on behalf of their clients.

Experts believe that the Islamic Sukuk can serve as a reliable market for investments specifically for pension funds, since these tools are tied to the real economy and do not contain a speculative component in the management.

Tirad added: “Our challenges are clear. We aim to increase the private sector banks’ share of the Iraqi market from the current level of less than 20% and to develop the Islamic banking industry there.”

Zaratkazy Nurpiissov, Chairman of Board, Fattah Finance JSCThe pension assets market size is worth 17 billion U. S dollars, including around 30% of foreign securities. If sukuk will occupy the share of 5% it will equal to about 1 billion US dollars.

Islamic Financial instruments arrived at Kazakhstan market Kazakhstan Development Bank held a successful debut 5-year release of the Islamic Sukuk worth more than 11.350 billion tenge. The interest rate will be 5.5% per

Currently, Kazakhstan accommodates the Al Hilal Islamic bank, the Takaful insurance company and the Fattah Finance financial company. In addition, the country has several Islamic investment funds.

2011 October - November Global Islamic Finance

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News

Islamic Banking Launches $1.5 Billion for Global Development Projects It has been reported that The 284th meeting of the Board of Executive Directors of the Islamic Development Bank, which convened at IDB headquarters starting Sunday 16 July, under the chairman’s Mmmhip of Dr. Ahmad Mohamed Ali, President, IDB Group, approved more than $ 1,158 million towards development projects financing for IDB member countries and Muslim communities in non-member countries. This is the largest amount of approvals by a single IDB board meeting since the Bank’s inception in 1975. The approvals covered a large number of strategically important development projects comprising: $683 million for power generation and power transmission projects in five IDB Member Countries: Morocco, Tunisia, Iran, Uzbekistan and Tajikistan; $274.8 million for food security and rural development activities in African countries: Cameroon, Chad, Uganda, Benin, Burkina Faso, Mali, Niger, Mauritania and Togo; $146.2 million for educational projects in Indonesia, Yemen and Bangladesh$45 million to Indonesia Exim Bank for the financing of export-oriented small and medium size industries;$7.6 million as additional financing for Durres fishing in Albania (bringing IDB contribution for that project to $16.8 million);$400,000 technical assistance grant to Djibouti for the Mother to Child AIDS Transmission Prevention Project in the health sector. In line with the Islamic Development Bank’s resolve to support development efforts in Muslim communities in non-member countries, the board also approved $1.1 million as grants from the Wakf fund for participation in four educational projects for Muslim communities in Ethiopia, India, Papua New Guinea and Germany and one health project in the Philippines. During its meeting, the board reviewed a number of important reports including the progress report on the implementation of IDB’s program for supporting Youth Employment in Arab Countries for which the Bank had already allocated $250 million and another report on the latest developments on the establishment of the ‘Mega Bank’, aiming at liquidity management for Islamic banks, and for which a tripartite Memorandum of understanding was signed earlier between the Government of Qatar, the IDB and the Dallah Al Baraka Group. Qatar’s $4bn Sukuk to ensure Liquidity QIIB (International Islamic), which was a co-manager to Qatar’s recent $4bn twotranche sukuk, said the bond would ensure 10 Global Islamic Finance

liquidity at the “least cost” and “positively impact” all sectors of the national economy. QIIB chief executive officer, Abdulbasit A alShaibei said International Islamic was proud to have participated in the sukuk, which received great attention from all over the world in view of “Qatar’s robust economy”. This was reflected in the sukuk attracting a massive order book of more than $25bn, he said. S&P has given the sukuk AA rating, again confirming that Qatar’s economy is on a strong footing. “The issuance of the Islamic bond is an indication of sound liquidity management and measures aimed at containing inflation. Sukuks are important instruments in Islamic finance. “Qatar is fast emerging as the best country in the region to manage Islamic bonds. I hope many more such bonds will be issued when necessary,” al-Shaibei said in a statement yesterday. Investors have “great trust” in all sectors of the Qatari economy in light of its “potential” and the “strategic projects” that are in the pipeline, both in the energy or non-energy sectors. “At QIIB, we have been proud to associate with the issuance of Qatari Islamic bonds. We were also the managers for the issuance of the first set of bonds for Government of Qatar in 2003 for $700mn. And today we are happy to participate in the new sukuk issuance,” al-Shaibei said. Islamic Development Bank Approves $1 Billion Projects It has been reported that the 284th meeting of the Board of Executive Directors of the Islamic Development Bank, which convened at IDB headquarters starting Sunday 16 July, under the chairmanship of Dr. Ahmad Mohamed Ali, President, IDB Group, approved more than $ 1,158 million towards development projects financing for IDB member countries and Muslim communities in non-member countries. The 284th meeting of the Board of Executive Directors of the Islamic Development Bank, which convened at IDB headquarters starting Sunday 16 July, under the chairmanship of Dr. Ahmad Mohamed Ali, President, IDB Group, approved more than $ 1,158 million towards development projects financing for IDB member countries and Muslim communities in non-member countries. This is the largest amount of approvals by a single IDB board meeting since the Bank’s inception in 1975. The approvals covered a large number of strategically important development projects.

October - November 2012

In line with the Islamic Development Bank’s resolve to support development efforts in Muslim communities in non-member countries, the board also approved $1.1 million as grants from the Wakf fund for participation in four educational projects for Muslim communities in Ethiopia, India, Papua New Guinea and Germany and one health project in the Philippines. During its meeting, the board reviewed a number of important reports including the progress report on the implementation of IDB’s program for supporting Youth Employment in Arab Countries for which the Bank had already allocated $250 million and another report on the latest developments on the establishment of the ‘Mega Bank’, aiming at liquidity management for Islamic banks, and for which a tripartite Memorandum of understanding was signed earlier between the Government of Qatar, the IDB and the Dallah Al Baraka Group. Shariah Islamic Bank launches region’s first visually impaired friendly ATM Shariah Islamic Bank has announced the launch of the first visually impaired friendly Automated Teller Machine (ATM) in the country and region. The announcement was made during a press conference that was held at the Emirates Association for the Blind in Shariah, under the patronage of Sheikha Jamila bint Mohammed Al Qasimi, Director of Shariah City for Humanitarian Services (SCHS), in the presence of HE Mohammed Abdullah, CEO of Shariah Islamic Bank, Mr Adel Al Zamar, Vice Chairman of the Emirates Association for the Blind in Shariah, a number of senior directors of departments and branches and representatives of the IT solution provider. The launch of the first visually impaired friendly ATM is consistent with the country’s intention to meet the needs of people with special needs and is in line with the eagerness of HH Dr Sheikh Sultan bin Mohammed Al Qasimi, Supreme Council Member and Ruler of Shariah to remove all obstacles which stand in the way of carrying out projects in aid of the visually impaired. HH Ruler of Shariah has recently ordered banks to offer facilities to the blind in response to a telephone call made by Manar Al Hamadi, a blind lawyer, to Al Bath Al Mubasher Program. SIB has opened a bank account for her and soon after announced the launch of the new ATM. Speaking on the occasion, HE Mohammed Abdullah, CEO of Shariah Islamic Bank, said, “We are thrilled to launch the first visually impaired friendly ATM in the region. We have

News

We have set a new precedence in our country in this field and proved, once again, our commitment to carry out our corporate social responsibility programs. This step will boost the banking sector, in general, and Islamic banking, in particular.” Meanwhile, Mr Adel Al Zamar, Vice Chairman of SCHS, said, “The launch of this service reflects both the interest of decision makers in the role of the visually impaired in society and the commitment to help, support and take extra care of this important segment of

When the economy is not doing well, banks underperform. Their absence in Shariah portfolios helps these funds do better than the broader market. Also, these funds only look at companies where interest payments are low, which inevitably points to cash-rich companies. These again do well in a rising interest rate scenario

CNS, the local agent of the German Wincor company, said, “As a result of our negotiation with the Shariah Islamic Bank, we speeded up in implementing the directives of designing an innovative product for visually impaired people. We have developed a solution that facilitates banking services for the blind through a sophisticated ATM.

determined depending on the monitoring of users interface with the system’s functions and mechanisms. SIB is set to expand their services for the visually impaired in the coming period.

We are proud to celebrate offering this technology to the visually impaired within record time. In the coming period, we will be taking further steps in this direction to provide more comprehensive and inclusive service.”

It has been reported that Standard Chartered, Malaysia’s CIMB are tapping prospects for Islamic private banking. Kuala Lumpur/Hong Kong: Standard Chartered Plc will start Islamic private banking services in Asia and CIMB Group Holdings Bhd. plans to roll out new products for the wealthy as they target rich Muslims who have limited investment options.

The company asked the journalists and media representatives at the press conference to inaugurate the machine by closing their eyes to feel the experience and develop a

many reasons to be proud, as we have succeeded to live up to the ambition of His Highness Ruler of Shariah in serving the visually impaired who are part and parcel of mainstream society.

There are two main issues for Islamic banks in managing their liquidity, especially in the short-term and to some extent in the longterm. One is the lack of a developed global Islamic money market, especially an Islamic interbank market, of the kind seen in conventional finance; the other is the shortage of short-term to long-term, or highly tradable, investment instruments with limited capital risk and, ideally, predictable returns. On the other hand, the Islamic finance industry is also pondering whether it should develop Islamic derivative/ hedging instruments

Banks Plan Shariah Assets for Asian Millionaires

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Whilst investors are now aware of the wide choice of Shariah investment products available in the market, they should now learn to appreciate the benefits that come along with Shariah investing. There has also been articulation by investors that the asset classes made available to the investors are not as broad and deep as what is made available to them in the conventional investment space

Waqar Naqvi, Chief Executive Officer, Taurus Mutual Fund

society. This step is a good omen of many other services to come. The initiative demonstrates the SIB’s leadership in offering this high end service which significantly benefits the Emirates Association for the Blind.” The new ATM features a large Braille keypad, high resolution screen, wide keys, headphone and external speaker to ensure the user’s privacy. The system has fewer options than the normal one for greater user convenience. The machine is designed for the visually impaired, but can be also used by others.

12 Global Islamic Finance

Sulaiman al Harthy,

Group General Manager, Islamic Banking, BankMuscat

greater understanding and sympathy for the service that will be offered to the blind. Journalists highly appreciated the experience of the functions and services it will deliver to users. They asked that this service be enabled cover as large an area the country as possible in the soonest time possible. ATM is located in the Emirates Association for the Blind in Shariah’s headquarters where the visually impaired people will be trained to use the machine by a team from the bank in collaboration with the EABS. There will be a trial period, the length of which will be

October - November 2012

Datuk Noripah Kamso,

CEO, CIMB-Principal Islamic Asset Management Sdn Bhd

The UK’s second-largest lender by market value will offer Shariah-compliant products tailored to meet the needs of people who have at least $2 million (Dh7.35 million), Wasim Saifi, the Kuala Lumpur-based global head for Islamic consumer banking, said in a July 6 interview. Malaysia’s CIMB will market more instruments in the fourth quarter for clients with a minimum of 1 million ringgit (Dh1.15 million), Badlisyah Abdul Gani, chief executive officer of CIMB Islamic Bank Bhd., said on July 10. CIMB says Islamic private banking has been slow to take off due to the challenge of creating enough investments that comply

News

“There are huge prospects for Islamic private banking,” Abas A. Jalil, CEO of Kuala Lumpur-based consultancy Amanah Capital Group Ltd., said in a July 9 interview. “There are many investors in Asia whose businesses have been doing well in the Middle East, Europe and America and they are looking at investing.”

The rapidly growing Shariah compliant fund management industry is still struggling to find suitable assets to invest in

Said Hirsh,

Capital Economist, Middle East

Falling yields on Islamic bonds are cutting options for banks looking to boost returns for their wealthy Muslim clients. Global yields dropped six basis points this month to 3.38 per cent, the lowest level since January 2005, according to the HSBC/Nasdaq Dubai US Dollar Sukuk Index. The securities offered average rates as high as 4.49 per cent in 2010 and 6 per cent in 2007. Standard Chartered plans to introduce Shariah-compliant structured products among its private-banking options, according to Saifi. Such investments are classed as higher-risk, often involve hedging, and are typically tied to movements of underlying assets, includ-

ing equities. The lender, which earns most of its profit in Asia, will also offer mutual funds, he said. Private banking ranges from property investments to retirement planning.

The bank announced on June 25 that Shariah-compliant wealth-management services would also begin in Dubai, London, Geneva and Jersey, according to a statement.

“The wealthier the customer is, his requirements tend to be far more sophisticated when it comes to risk management, diversification and yield-enhancement,” Saifi said. “Today, you can’t really say that an Islamic high net-worth individual would have the same options on the Shariah side as he would have on the conventional side.”

The number of millionaires in the Middle East rose 2.7 per cent to 450,000 last year, according to Capgemini’s report, which didn’t give a breakdown for the Asia-Pacific region. “There is increasing demand for Islamic private banking,” CIMB’s Badlisyah said. “This area is a low-lying fruit as wealthy Muslims in Asia are under-served.”

Interest in financial products for wealthy Muslims will rise as economic growth in Asian nations outpaces the rest of the world, driving up incomes, according to CIMB.

Islamic finance assets total $1.3 trillion globally and are growing at an average annual rate of 15 per cent, according to a June 27 statement from Malaysia’s Securities Commission. The Southeast Asian nation is the world’s biggest market for Shariah-compliant bonds.

with Shariah law, while Standard Chartered estimates that seven out of eight Muslims globally bank according to non-Islamic principles. The number of individuals in Asia Pacific with at least $1 million in investable assets reached 3.4 million last year, topping the number in North America, according to a report released in June by Capgemini SA and RBC Wealth Management.

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Islamic investment principles are all about value and conservatism and about investing in worthwhile things that are ultra-ethical - and I think I should be extraordinarily clear about that, there is nothing to fear here

Talal Yassine,

Founder and Managing Director, Crescent Wealth

The International Monetary Fund (IMF) estimates economies in developing Asian countries will expand 7.3 per cent this year and 7.9 per cent in 2013, according to its World Economic Outlook Update issued in April. That compares with 2.1 per cent and 2.4 per cent in the US, respectively. The Middle East and North African regions will grow 4.2 per cent and 3.7 per cent, the Washington based lender said. Standard Chartered has started offering Islamic private-banking products in Malaysia, Indonesia, Brunei, India and Pakistan through its offices in Singapore and Hong Kong, Saifi said.

Global sukuk are yielding 184 basis points, or 1.84 percentage points, less than the 5.22 per cent average on debt in emerging markets as increased supply fails to match demand. Islamic notes returned 5.5 per cent this year, according to HSBC indexes, compared with 9.3 per cent for securities in developing markets, JPMorgan Chase & Co.’s EMBI Global index shows. Worldwide sales of Islamic bonds, which pay returns on assets to comply with Islam’s ban on interest, climbed 65 per cent to $25.5 billion in 2012 from a year earlier, according to data compiled by Bloomberg. Issuance reached a record $36.7 billion in 2011. The difference between average global sukuk yields and the London interbank offered rate, or Libor, widened five basis points this month to 245 basis points, according to HSBC. That compares with 273 basis points at the end of last year. Shariah-compliant private banking needs more time to establish records of historical performance and a wider range of products in order to grow, according to the Dubaibased law firm King & Spalding. The industry may then attract non-Muslims, Jawad Ali, deputy global head of the Islamic finance practice at King & Spalding, said in a July 9. “If the private banker has a good menu of Shariah-compliant products to offer, then the industry will grow,” Ali said. “The only way for Islamic private banking to entice conventional investors is to create a track record of producing better returns over a period of time.”

2011 October - November Global Islamic Finance 13

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Islamic Finance

ISLAMIC FINANCE:

A GOLDEN OPPORTUNITY FOR YOUNG ENTREPRENEURS Author: Tasnim Nazeer, Global Islamic Finance Magazine, Editorial Staff, United Kingdom David Smith, Global Islamic Finance Magazine, Editorial Staff, United Kingdom

Abstract: The Islamic finance and banking industry is growing at an unprecedented rate and is expected to see flourishing progression in 2012 and beyond. There are many opportunities for career growth and investments within the industry and many young entrepreneurs are tapping into the lucrative sector and finding ways to create wealth in a Shariah compliant manner. It can often be difficult for entrepreneurs to find the best avenues for investments and business creation within the Islamic finance and banking industry. However due to the rise of various Islamic commodities and its successful framework there are more opportunities opening up for the budding entrepreneur wishing to tap into the industry. There are a few specialised courses for young entrepreneurs which are run at various Islamic financial institutions around the world. Islamic finance is making unprecedented and rapid growth in the competitive financial world and Islamic financial entrepreneurs can further help to provide a sound platform for further lucrative profits and investments. The Islamic finance industry have a number of openings for advancements within various sectors of the industry including Sukuk Islamic bonds and Takaful in addition to more unique opportunities within the investment sector and Islamic microfinance. This article is a must read for all entrepreneurs wishing to tap into the lucrative sector. Keywords: Entrepreneurs, Islamic finance, Islamic Banking, Investments, Shariah Compliancy 14 Global Islamic Finance

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A Focused Approach to Excelling as a Young Entrepreneur in Islamic Finance If you do have a business idea or plan that you want to invest your time and money on within the Islamic finance and banking industry it is firstly important to be acquainted with the key Shariah financing principles governing Islamic finance before making any informed decisions on your business plan. If your potential investment or business is not considered Shariah complaint or goes against the principles of Islam then you would be less likely to succeed in this highly competitive industry. This is due to the fact that businesses and customers wishing to utilise Shariah compliant services want the confidence and trust that the business operates in a manner that adheres to the principles of Islamic finance. It is therefore beneficial to consider the key principles of Shariah compliancy as outlined in Figure 1. As outlined in Figure 1 the principles of Shariah compliant finance should form the basis of all marketing of your personal brand and will help you to stay focused on which investments and deals would be most suitable for you and your potential company at large. It is important to stay clear of investments which you feel doubtful of as this may hinder your chances of being recognised as a fully fledged Islamic financial institution.

Islamic Finance Once you have familiarised yourself with the principles of Islamic finance then you can look further a field at building your personal strategic plan in order to help your business grow and prosper in the highly competitive world of Islamic finance. There are many things to consider as a potential investor or business entrepreneur such as if you are thinking of introducing a new or innovative Islamic business you would need to ensure that all your marketing is done in a Shariah compliant manner. You would also need to think strategically about your next move and make plans in order to facilitate progression of your potential business, company or investment. Figure 2 outlines a checklist which you can use in the planning stages. Figure 2 created in order for you to put things in perspective. In order to implement strategic planning measures in building your personal brand you can use the checklist in Figure 2 to run through the processes of implementation and success of strategies which you or your team of entrepreneurs have thought up. Key Areas for Investments or Business Opportunities in Islamic Finance There are many key areas for investments and business opportunities that the young entrepreneur may want to consider tapping into. These areas are outlined in Figure 3. There are a number of sectors within the Islamic finance industry as outlined in Figure 3 which can open up opportunities for the potential young business man or women. Sectors such as Sukuk and Takaful are becoming increasingly popular around the world in addition to tapping into the infrastructure arena by using Islamic financial methods which is also paving the way for Shariah compliant investments worldwide. An entrepreneur has to consider what skills and unique ideas they have in order to further excel and enhance Islamic financial products or offerings and this can be the key to success in the Islamic finance industry. Entrepreneurs also have to consider the many advantages of starting up or joining small or medium enterprises to further excel their business plans and develop their dreams into reality. SME’s a Growing Market for Investments in Islamic Banking Services Many countries from around the world are opening up Islamic financial institutions and fully fledged Islamic banks which cater for the demand for Shariah compliant products and services. One aspect of Islamic banking services is its attraction to small and medium enterprises as

it presents them with an attractive alternative of financing for their businesses. Many Muslims and Non Muslims around the world find Shariah compliant financing an ethical option in comparison to conventional financing which is why there is a growing market for Islamic banking services around the world. It is clearly apparent that in order for any investment or transaction to be made by Small or medium enterprises the company would have to adhere to the principles laid out by the Shariah. It is worthwhile for any potential business professional or investor to consider the importance of SME’s in the Islamic banking and finance industry. The Shariah compliant methods of financing for Small and Medium enterprises is not only confined to Muslims alone but also welcomes applications from Non Muslims wishing to adhere to Shariah financing rules in dealing with their wealth in their businesses. In all contracts it is important to familiarise yourself with the terminology used in Islamic Finance. Many investors around the world continue to praise Islamic financial methodsand often find that there are less risks associated with Islamic finance than if they were to take up financing options with a conventional bank. As Shariah compliant Islamic instruments such as Sukuk Islamic bonds become a universal and globally renowned method of financing many SMEs become familiarised with the terms and conditions and find the options increasingly attractive. Saudi Arabia and Malaysia have been actively encouraging the financing of SMEs by the banking sector in an effort to stimulate the private sector and to boost rural and inner city poverty alleviation policies.In Malaysia for example Bank Negara, the central bank has provided financing for SMEs as the Islamic

Prohibition of Riba interest and uncertainty

Profit Sharing/Risk Sharing

Existence of underlying asset

Prohibition of Forbidden Assets

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banking sector continued to increase from RM3.5 billion. “The small business sector makes up 80 percent of the Saudi market”, stressed Ibrahim Al-Buloushi, head of NCB’s small business group.” The bank’s aim was to expand the national economic structure which would consequently provide the support it needs to increase and generate income and activate the economy to create more jobs and investment opportunities worldwide. “The reasons why SME financing should be a natural niche for Islamic banking,” stresses Dr. Adalet Djabiev, CEO of Badr-Forte Bank in Moscow, which is Russian sole Islamic bank, “is that it deals directly with the real economy; creates employment; involves the productive use of resources especially capital and finance; and contributes directly toward the alleviation of poverty.” The Islamic Banking industry is providing unprecedented unique services for both Muslims and Non Muslims around the world and the future for Small and Medium Enterprises looks promising if they were to choose an Islamic financial institution. If you are an Islamic financial institution wishing to target the SMEs in attracting your services then proper marketing and promotion of the various ranges of options available to SMEs for support with funding can further help to spur growth and profits. Education Paving the Way to Success for Entrepreneurs Education and having the necessary skills and experience can create a platform to be a successful young entrepreneur. This is especially the case when it comes to Islamic finance and banking investments or enterprises because Islamic finance is a niche field and there are relevant studies which may be needed to fully equip yourself with the key terminology and how the Islamic finance and banking industry operates as a whole. There are many Islamic financial institutions and courses worldwide which can give you the necessary skills to further progress in a career in Islamic finance. The Islamic Finance School of Entrepreneurship based in the Republic of South Africa in Zambia offers a one year program for young entrepreneurs with the relevant knowledge and skills to set them ahead of the game in business within the Islamic finance industry. In addition The Islamic Finance School of Entrepreneurship course addresses the modules of, thinking strategically, human resource management, in2011 October - November Global Islamic Finance 15

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Islamic Finance

novation and entrepreneurship, marketing management, financial management. Ebi Patel, CEO of IslamicFinance said: “The concept of a business school where young people could benefit from advice and guidance from successful industry leaders developed from our belief in the importance of training and equipping future generations who will contribute significantly to future economic growth. What better way than to learn from esteemed captains of industry who have learned and fine-tuned successful skills and business strategies?” The need for educating young entrepreneurs was further discussed at the Jeddah Economic Forum in Saudi Arabia which was held in March 2012. Entrepreneurship experts, top governmental representatives, and young Saudi businessmen and women joined the forum to discuss key strategies for developing entrepreneurs in the industry.

“Saudi Arabia abounds in substantial family businesses. Joining forces between members of the successful and experienced private sector, by opening for instance a venture fund and developing a common strategy, can create numerous jobs and opportunities. The real point is what we can do

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Professional industry experts such as influential investor and entrepreneur James Caan from the UK joined the discussion and believes that ‘Entrepreneurship mindsets, braveness in coming up with innovative ideas and decentralization of initiatives to encourage the setting up of successful private businesses can do more to the cause than any univocal governmental program.

One aspect of Islamic banking services is its attraction to small and medium enterprises as it presents them with an attractive alternative of financing for their businesses

Figure 2: 1. 2. 3. 4. 5. 6. 7.

Plan out your strategies and note them down on a bulleted list form Research the Islamic global financial market relevant to your strategy Identify competitors and create unique branding selling points Work to implement improvements and room for change on your strategies Implement changes and note down improvements Identify what strategies do or do not work Tick off all successful strategic plans once implemented

Fact Arab spring hits economies but boosts entrepreneurship An online survey conducted by Middle East jobsite Bayt.com in partnership with the Program on Arab Reform and Democracy at Stanford University’s Center on Democracy, Development, and the Rule of Law as well as research and consulting organisation YouGov, has revealed that while the Arab spring had an immediate negative impact on the economy in the MENA region, its effect has been positive in driving higher interest in both economic and social development.

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for our government through our experience and/or ideas and not vice-versa,” said Caan. In addition CEO-founder of Yamli.com and YallaStartup.org Habib Haddad said, “Start small and think big, work more and think less and don’t give too much importance to immediate productivity.” In entrepreneurship, events never follow a linear trend,” said Habib. It is normal to face difficult moments. Unfortunately the culture in Saudi Arabia is not yet supportive and few people would dare leave a secure job to give form to an idea, he added. The major hub Saudi Arabia has also made many provisions for facilitating the training of young entrepreneurs in the country by creating funds such as the Centennial Fund to further nurture new and rising talent. Sheikh Ebrahim bin Khalifa Al Khalifa, chairman of the board of trustees of Arab Regional Centre for Entrepreneurship and Investment Training (ARCEIT) said, ‘“The MoU with the Centennial Fund will open a new era of cooperation and development for the BahrainArab Model as it will focus on Saudi Arabia as well as the greater MENA region further enhancing the scope of this unique enterprise development model through intensive training and expert counselling,” As you can see education and taking the relevant courses can further help young entrepreneurs to further excel in the growing industry. Investing Islamic micro finance in a Niche Sector and finding Services for Islamic Micro Finance Islamic microfinance is becoming an increasingly popular option for investments and many investors from around the world

Islamic Finance Samir Alamad, Islamic Bank of Britain (IBB), Senior Manager, Shariah Compliance & Product Development

What progressive steps can potential entrepreneurs take in establishing an SME business in a Shariah compliant manner? Establishing any business is about planning. For a Sharia compliant business there is the added element of ensuring that all aspects of the business are in line with Sharia principles. These two elements must be dealt with in an integrated way. Dedicated business advice from relevant experts, such as accountants and business advice organisations, should be sought by any entrepreneur to make certain that their business plan is viable. This may require market and competitor research as well as reviewing pricing and costs. They must also address the legal and regulatory requirements of the business he/she is proposing. Similarly, to ensure the business they are considering is Sharia compliant, it is necessary that the entrepreneur looks at all aspects of the business. This includes suppliers, partners, funding and operations, taking care that none of these will contravene Sharia. If there is doubt, the entrepreneur may wish to consider consulting a Sharia expert to resolve any issues they think exist. How important is having a Shariah compliant business plan in place? A business plan is a useful tool for anyone considering starting a business. As described above, to ensure that the business aspects and the Sharia aspects of the business are comprehensively addressed, dedicated advice from relevant experts should be sought. What are the main challenges when it comes to offering new and innovative Islamic financial instruments for SMEs? Currently, there is a limited range of products available for SMEs from Islamic banks. One of the reasons for this is likely to be the high risk profile of the market, making Islamic banks reluctant to offer a wider range of products. Conversely, slow product development for SME businesses by Islamic banks can also be attributed to the overall low demand for Sharia compliant finance business products. This, however, is caused by the lack of awareness amongst SMEs about the availability of Sharia compliant business finance. More needs to be done to educate the market that this is quite a well developed area. At the retail level, IBB offers Sharia compliant Business Banking. Its offerings consist of a Business Current Account, Business Savings Accounts and Commercial Property Finance. At the corporate level, the last few years has seen Islamic finance emerging as a viable alternative to conventional financing products, illustrated by several, public landmark transactions. These include the purchase by an Islamic bank of a Rolls Royce manufacturing and logistics facility located in Scotland, Qatari financing for Europe’s tallest building, the Shard of Glass, and funding for the redevelopment of the Chelsea Barracks. This deal was valued at £959m and was the highest value UK land acquisition in history. Whilst some financial institutions, such as IBB and Islamic corporate financiers are leading the way, a further issue for some Islamic banks is a lack of expertise to develop new products. A good understanding is required of the different products that are suitable for SMEs, without which banks are limited by what they can offer. Education, therefore, is the key for this market to develop. Awareness raising activities amongst SMEs about the benefits of Islamic finance needs to be initiated in order to generate consumer demand. This needs to be complemented with a better understanding by Islamic banks of the requirements SMEs have. This will enable them to source the right expertise in order to develop appropriate products that will help drive market growth.

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are seeing the benefits of investing in this lucrative sector. As the micro finance sector is relatively new in establishing itself within the Islamic financial framework it has seen rapid demand from investors worldwide but needs to overcome challenges in order to further progress. Most Islamic Microfinance arrangements fall under the scheme of Mudaraba which is a contract whereby one participant provides capital and the other participant utilizes it for business purposes such as the ‘worker’. The profits acquired are then shared equally between the two parties involved. A Shariah advisor is normally consulted in a microfinance investment project and the proportion of profits are agreed at a term. There have been more and more opportunities and Islamic micro finance funds that have been established around the world to cater for opportunities for Islamic investments within the growing sector. Islamic Microfinance relies upon adherence to the principles of Islam and the Shariah as it is socially responsible form of investing and only involves itself in projects such as Zakat which is charity based projects or economic projects to develop an individual country’s economy. Islamic Microfinance gives the investor a chance to get involved in worthwhile projects which could essentially play a significant role in targeting poverty and alleviating it in many countries around the world. In 2010 Al Amal Bank in the Middle East, a leading provider of Islamic finance services was awarded the Islamic Micro Finance Project. Al Amal Bank then went on to implement an investment fund which could be utilised for Islamic Micro finance. This initiative introduced the ijarah leasing product in those wishing to purchase generated assets from the Islamic microfinance sector. Al-Amal Investment Funds enabled the private sector to cover the financing needs of microfinance programs. Therefore businesses no longer needed to donate, but instead they could save with microfinance institutions that provide a voluntary savings service. The bank will reserve one of these investment vehicles to finance the leasing product, enabling the product to become self-sufficient in a short time while maintaining its Islamic Shariah compliant system. If you are an investor considering investing in Islamic Microfinance then it would be a worthwhile and rewarding opportunity to contribute in a socially responsible and ethical project. This will not only benefit society at large but also deal with the economy and give an opportunity for investments in poverty stricken areas which have scope to be further developed. Investments for Young Entrepreneurs As a young entrepreneur there may be certain sectors of the Islamic finance industry which are more lucrative than others. Anypotential investor should start looking for ways in which you could utilise your wealth to make key investments in your preferred country of choice and subsequently you can balance out which country you feel has the most opportunities for your specific investment idea. Saudi Arabia has an oil-based economy with strong government controls over major economic activities. It possesses more than 20% of the world’s proven petroleum reserves, ranks as the largest exporter of petroleum, and plays a leading role in OPEC. High oil prices have boosted growth, government revenues, and Saudi ownership of foreign assets which makes it a reliable and lucrative source for investments. Malaysia with its rising real estate sector and its key developments

2011 October - November Global Islamic Finance 17

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Introduction to Business Plans

The success of any business lies in its business plan and this is why it is imperative to produce an efficient business plan in order to ensure that you have all aspects of your potential company mapped out. This essential planning forms the basis for you to work out your budget, expenditure and other various factors which help to ensure the smooth running of your potential business. Many entrepreneurs, industry professionals and investors benefit from creating a solid business plan and often the most successful companies have found that the reason why they have done so well is because they had the perfect starting point mapped out by their business plan. In assessing the importance of a business plan it is crucial to understand what a professional business plan actually is in its entirety. A professional business plan is used as a formal statement which outlines your set of business targets and goals. In addition business plans give you an outline and indication of how you can work towards achieving your companies outlined goals and provides you motivation to strive towards the overall success of your company. In addition a business plan often outlines members of the team, their roles within the structure of the company and background information on how they will utilise strategies to achieve your company’s goals. The business plan also should outline the customer needs and how your branding and marketing will be conducted in order to target your target customer market. Often existing businesses restructure their initial business plan according to changes in customer needs or when planning a new venture. The number of years that it would take to achieve your company goals is also outlined in the business plan and this could be anywhere from 1- 5 years according to how much work you need to put into the company. The Benefits of a Business Plan Creating a business plan is extremely beneficial and provides a formal document to use as your business roadmap to outline the benchmarks and overall vision of your company. The modern day business relies upon its business plan to provide and track progression within the business. There are numerous benefits of creating a business plan as you can see clearly the goals you wish to achieve and identify them so that each goal can be worked on. In addition you can plan your budget and expenditure of the company and your estimated investments within the company to further make things clear. A business plan helps you to identify room for improvements and where the gaps are so that you can plan ahead for the next financial year and see what needs implementing and what needs changing. One of the best components of a business plan is that it highlights your strengths and vision for the business. A business plan helps you to identify your successes and aim towards enhancing your business forward in addition to recognising weaknesses within a company so that there is room left for improvement. Louise Woodbury from business planning company, Quantum Dynamics believes that business planning is important because it provides focus, guidance, commitment. “It is a process that is focused on what you are passionate about. One of the best things about a business plan is that it highlights your successes. It creates a benchmark so you can recognise and acknowledge your wins as well as the areas you need to work on.” “Plans make owners and teams accountable. When the year has been mapped out you can get on with running the business, rather than thinking about it,” says Woodbury. Business plans can also act as a trusting source for a potential investor who is interested in investing or partaking in your company. Any investor or potential client will want to know more about the background and overall vision, ethos and goals of your company and this is why the business plan is particularly important. The business plan provides the foundation of your company and it may become significantly important in the later stages of your business when you want to outsource and attract potential global investors who may be keen to tap into your initial business plan and view your strengths and any gaps that may be identified. Business plansare an essential tool for your business in order to raise capital and this would need your business plan to be ready for the keen eye of the potential investor. You are not going to succeed within a business if you have not planned and prepared your company so organisation is key and preparing an efficient plan can bring you one step closer to success both in the initial and later stages of your business development.

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The business plan formal document should be professionally prepared to meet the needs of potential investors or anyone wishing to know more about your business goals so that they could offer something to your company. In your business plan, you should be able to see your own project through the investor’s eye and this is extremely important if you want to get ahead of the competition. Business plans give you the edge over competitive companies as it enables you to see your own unique plus points within your business and what makes your company a cut above the rest in addition to seeing what you can further do to make your company better. Your business plan must be able to answer all the concerns of a potential contributor to your business so it may be worthwhile hiring an expert to help you in preparing your formal business document. Potential investors, professionals and equity firms are risking their hard earned capital by investing in your venture or project in the hope of long term profitability that are worth many times more than their original investment which is why it is important to have things planned out right from the very beginning. An investor ready business plan demonstrates your competence and efficiency to the potential investor. It also shows that you are an expert in your industry and that you have a clear and concise mission to achieve your goals. The Main Components of a Business Plan There are various specific components which make a professional business plan an efficient document to form the basis of your company’s goals, budget, vision, ethos and benchmarks for achievement and profitability. There are many factors that a business has to take into consideration when composing a business plan as outlined in Figure 1. Figure 1: Main Components of a Business Plan Executive summary: The major points of your business plan in two pages or less Company overview: Your mission, vision, values, products, unique attributes, and the business opportunity you plan to seize Business environment: An analysis of your industry, your marketplace, your customers, your competition, and how you stack up Company description: The capabilities that give you a unique advantage over your competitors — including your management, technology, operations, distribution, service, finances, and marketing Company strategy: Your roadmap to the future (including how you’ll seize opportunities and avoid threats), your growth plans, your marketing plan, and even your exit strategy Financial review: The state of your finances, including your income statement, balance sheet, cash flow statement, profit projection, and budget Action plan: Steps you’ll take to implement your business plan to meet your goals and objectives A Business Plan Your Benchmark to Success A well planned and professional business plan which includes all your marketing and financial strategies can pave the way for success and further help your business to grow. If you have an efficient business plan in place from the very beginning this will help you to provide the benchmark and framework to show potential investors and will be beneficial in the later stages of development when your business is progressing. It will also help you to identify what has worked within the time frame and what needs to be changed, implemented and improved in order to further spur success of your business. Marketing and financial planning is imperative in creating the perfect business plan which is why these two components are a must when creating the ultimate business plan for your business. A business plan helps you to identify your successes and aim towards enhancing your business forward in addition to recognising weaknesses within a company so that there is room left for improvement. By creating your business plan at the earliest you can help to further propel your business and turn it from an idea into a lucrative venture.

Islamic Finance Azmat Rafique, Head of Islamic Banking, Oman Arab Bank

look at each and every process within the bank but also covers all external interactions and relationships with customers to verify their conformity to Shari’a rules.

What sectors are the most lucrative for potential entrepreneurs wishing to tap into the Islamic finance sector? Islamic finance is definitely open to any good Shari’a compliant business proposition. We have not seen any specific preference of Islamic banks for particular asset classes. Their investment or credit exposure preferences in different markets are mostly in line with what conventional banks have.

What are the main challenges when it comes to offering new and innovative Islamic financial instruments for SME’s? SME financing faces several internal and external challenges when it comes to Islamic banks. Internally, this sector receives less attention due to higher risk and lack or scarcity of information from customers. Sufficient information is necessary to evaluate various risks, design risk mitigation strategies and make credit decisions. Conventional financial institutions, operating in mature markets, have developed various innovative solutions to overcome this problem however; such practices are still not widely adopted by Islamic banks.

However, potential entrepreneurs need to be mindful of Shari’a sensitivities of their business propositions to meet basic Shari’a compliance requirement of Islamic banks. What progressive steps can potential entrepreneurs take in establishing an SME business in a Shariah compliant manner? Potential entrepreneurs who want to establish Shari’a compliant businesses need to first get their initial business ideas run through experts who are well versed in Islamic commercial jurisprudence and understand principle of Shari’a compliant corporate governance practices. This initial screening will save them time and money as at a later stage, if their operations were found non-Shari’a compliant, they will face reputational risk which may result in the loss of Shari’a sensitive critical clientele or they may fail to raise any financing from Islamic financial institutions where their businesses require external financing. The next important step will require development of a comprehensive business concept document (business plan) that explains the business proposition and along with other key elements also highlights the aspects of its being Shari’a compliant. This will give them clarity and will also satisfy the requirement of Islamic bank providing them necessary financing. Businesses are also required to carefully evaluate all their processes and functions from Shari’a compliance perspective. It would be worthwhile if they obtain a Fatwa (opinion) certifying that their business offerings and their internal processes have been found Shari’a compliant from a reputed Shari’a scholar or Shari’a advisory firm. How important is having a Shariah compliant business plan in place? This is a fundamental requirement. We have seen well known and established customers coming up with commercially viable and attractive business propositions but find that their businesses are not conforming to the Shari’a financing requirements. Such business initiatives are obviously not supported by Islamic financial institutions. Islamic banks are unique in the sense that they put Shari’a compliance as the first screening filter, whereas commercial viability comes next to it. This is the reason why corporate governance structure in Islamic banks has strong Shari’a compliance and auditing functions that not only

In developed markets, SMEs are regarded as ‘engines of growth’ and hence receive considerable support initiates from governments to further develop and strengthen this sector. Lack of governmental support in developing countries, where most of Islamic banking institutions are operating, makes it difficult for banks to deal with not so well organized sector. Most Islamic banks are relatively smaller in size and this also becomes an obstacle when it comes to committing resources to support new products or solutions that require changes in the way business is organized or managed – a necessary requirement for offering sophisticated SME financing solutions. Business advisory, training of entrepreneurs, incubators to support new businesses, credit guarantee schemes by governments etc. are few tried and tested enabling ideas that coupled with internal changes in the processes and systems of Islamic financial institutions can stimulate growth of Islamic financing solutions for SMEs. How can Islamic finance models support entrepreneurial activities? The necessary linking of financing with real economic activity in Islamic finance may also work as a catalyst for entrepreneurship. There are good Islamic modes of financing that can support entrepreneurial activity in green field projects. Musharika / Mudaraba have all necessary features that are required to support joint ventures between private firms and financial institutions. The other well known modes like Ijarah, Istisna’a and Salam can also be used with ease to support entrepreneurial activities. However, the issue is the readiness of Islamic financial institutions to support such activities. Most Islamic banks have neither expertise nor willingness to enter in the venture capital and private equity fields with SMEs. There are examples of private equity firms which are investing in Shari’a complaint opportunities using the various version of above mentioned modes of finance but they are mainly focused on large scale projects.

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in Islamic banking and Shariah compliant products also has a lot to offer in terms of profitable long term investments. Abu Dhabi and Dubai hold much scope especially in the Islamic equity markets for if you want to see significant returns. Many investors had been sceptical about investing in Dubai due to the Nakheel World case which tumbled the Dubai market however the market is recovering and picking up steadily making it yet again a place where investments could soar. With the sector being estimated to reach $2 trillion dollars by 2012 the market is spearheading ahead. Popular commodities such as Sukuk (Islamic bonds) and Takaful (insurance) is creating abundant opportunities for both Western and Muslim populated countries on a global scale. Many major Islamic financial hubs present various different ways of investing both for professional investors and people who want to tap into the market. There are many key areas for investing your wealth such as the sectors of real estate, Sukuk, Takaful, Shariah compliant equities, infrastructure and energy and resources. The Importance of Strategic Leadership for Entrepreneurs Strategic leadership provides you with the vision for your company and gives you a direction for the growth and success of your organisation. All senior level executives or CEOs need to deal with levels of change and therefore will need to further develop the skills and vital tools which can be used for implementation and formulation of specific strategies. Managing change especially in the growing Islamic financial market is undoubtedly no easy task however with a strategic level of thought you can build up ownership of your entrepreneurial skills. A thought leadership approach in Islamic finance uses the initiative to support stakeholders and raise solutions for various challenges within a company. This is achieved through a strategic benchmarking process which narrows down and identifies the most effective practices with the Islamic financial industry.Although many leaders and CEOs have focused a lot of their time and attention on thought leadership processes it is imperative that a strategic leadership structure is collaborated with the thought process initiative in order to further spur success in the company. There are various ways as a strategic leader or entrepreneur to build up your personal Shariah compliant financial brand in order to further promote strategic leadership skills. Strategic leadership is a form which has been particularly prominent in modern financial times. By incorporating both human 2011 October - November Global Islamic Finance 19

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Islamic Finance

Figure 3: Key Areas in IF for Young Entrepreneurs to Explore Sukuk Takaful Real state Infrastructure Energy & Resources

and analytical dimensions of strategy making into your company you can ensure that internal stakeholder groups have the perspective to lead in a way that incorporates both dimensions as and when the strategy is developed. In order to follow the necessary steps of building your personal brand through strategic leadership. There are many key and inspiring Islamic financial experts who have acted as successful leaders in their countries in facilitating the development of the Islamic financial industry. One such key figure is Malaysia’s Governor ZetiAkhtar Aziz who has made unprecedented achievements as a global Islamic financial supporter exhibiting excellent strategic leadership skills and advice. In a statement from her speech on human capital development in Malaysia she stated that. “Entering into strategic alliances with institutions of higher learning, Islamic financial institutions and other organisations can create greater synergy, which may bring about new approaches, new technologies and new areas of specialization”. Zeti further highlighted the ways in which successful implementation of strategic decisions and alliances can help prosper Islamic finance as a whole. It is worth noting that as a strategic leader and governor Zeti is a prime example of exhibiting strategic leadership skills and can be seen as an inspiration for building up your business leadership skills. The Future for Young Entrepreneurs Entering the Islamic Finance Industry The Islamic Finance industry is a growing sector and with the advancement of the industry there are more opportunities opening up from careers in the various sectors to developments in trade. There has been no better time for young entrepreneurs to utilise their skills in this growing $2 billion dollar industry which is set to further spur the industry forward. Global Islamic Finance Magazine has discussed in this article the importance of understanding the key principles underlying Islamic finance in addition to the importance of strategic thinking and planning when making a potential invest20 Global Islamic Finance

ment or business alliance. Many lucrative Islamic financial hubs such as Malaysia are successful in spurring investments and trade because their underlying Shariah compliant principles of Islamic finance are kept in tact and customers trust the renowned Islamic financial institutions to adhere to the principles of Islam. Many young entrepreneurs identify the unique aspects of Islamic finance which make it differ from conventional financing to give it the edge when looking to attract investments. All Islamic financial corporations have the advantage of the unique selling point of a no interest policy which adheres to the principles of Shariah finance. This unique selling point can be utilised in attracting the global market and cater for the demand of both Muslims and Non Muslims wishing to tap utilise Shariah compliant products and services. It is especially important as a leader to study the market, build objectives and create tangible strategies which you can follow through and implement change. There are many Islamic financial hubs such as Saudi Arabia which have made provisions and room for the facilitation of educational resources and training to nurture young entrepreneurs who want to get into business and use their skills in the Islamic financial industry. In addition hubs such as Malaysia and the Gulf continent have also provided ample room for training and conferences to ensure networking opportunities for potential young entrepreneurs and give them hands on practical experience of their chosen field in Islamic finance and banking. The importance of harnessing the new generation of talented individuals looking to bring fresh ideas and new innovative products and services to the Islamic finance industry is a must. Inevitably there will be challenges which make it difficult to see the progression of the industry unless issues such as standardisation and harmonisation between scholarly interpretations of what is Shariah compliant are benchmarked. As Shariah compliant Islamic instruments such as Sukuk Islamic bonds become a universal and globally renowned method of financing many SMEs become familiarised with the terms and conditions and find the options increasingly attractive. Saudi Arabia and Malaysia have been actively encouraging the financing of SMEs by the banking sector in an effort to stimulate the private sector and to boost rural and inner city poverty alleviation policies. The Islamic finance industry including SMEs have a promising future ahead if we nurture

October - November 2012

young entrepreneurs and give them the necessary opportunities to further excel in the growing sector which is set to reach over $2 trillion dollars. The Islamic Banking industry is providing unprecedented unique services for both Muslims and Non Muslims around the world and the future for Small and Medium Enterprises looks promising if they were to choose an Islamic financial institution. For this reason many young entrepreneurs choose to focus on tapping into the Islamic banking sector in addition to sectors within the Islamic finance industry to further utilise their skills and progress.

References and Further Reading •

•

• •

• • • • • • • • •

• •

R. Fedele (2012) <Start small and think big> call to young entrepreneurs’, Arab News, Retrieved from: http://arabnews.com/economy/ article583712.ece M. Rafique (2011) UNIDO deal boon for young entrepreneurs, Arab News, Retrieved from: http://www.zawya.com/story.cfm/sidZAWYA20111226041848/UNIDO_deal_boon_ for_young_MENA_entrepreneurs Stanstad, Production to Islamic Finance (2009) Clayton Utz, Retrieved from: http://www.claytonutz.com/publications/newsletters/banking_ and_financial_services_insights/20090924/ introduction_to_islamic_finance-part_ii.page Small and Medium Enterprises (2011) Bahrain Islamic Bank, Article Retrieved from: http:// www.bisb.com/corporate/sme.asp NBAD Launches e Banking Services for SMEs (2010) National Bank of Abu Dhabi Retrieved from: http://www.nbad.com/news/archive_ detail.php?ID=2455 Growth of Sukuk Market (2006) Islamic Banking Spot, Article Retrieved from: http://islamicbanking.blogsome.com/category/islamic-banking-news/saudi-arabia/ IslamicFinance School of Entrepreneurship Retrieved from: http://www.islamicfinance.co.za/about_us/ school_entrepreneurship.html H. Tahir, Thought Leadership (2009) Deloitte in the Middle East, Retrieved from: http://docs.google.com/viewer?a=v&q=cach e:hdb1rVh3HMoJ:www.deloitte.com/assets/ Dcom Strategic Leadership (2011) Definitions and Processes, Retrieved from: http://en.wikipedia. org/wiki/Strategic_Leadership Stumpf, R. Fulmer and J. Bleak (2009) The Strategic Development of High Potential Leaders, Strategy and Leadership, in press, S. Strategic Leadership: Concepts, skills, style, and process. Journal of Management Development, 1991, 10(1), 42-53, S. Stumpf and T. Mullen. Leadership and beyond: The need for strategic management skills. Advances in Strategic Management, 1988, Vol. 5., S. Stumpf Z. Akhtar Aziz, (2006) Focus on Human Capital Development in Malaysia, BIS Review, Retrieved from: http://docs.google.com/ viewer?a=v&q=cache:QNpjzL5F-68J:www.bis. org/review/r061220b.pdf+strategic+leadersh ip+islamic+finance

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Islamic Investment

PART 2 GIFâ&#x20AC;&#x2122;S WORLD ISLAMIC FINANCE INVESTMENT REVIEW Author: Tasnim Nazeer, Global Islamic Finance Magazine, Editorial Team, United Kingdom

Abstract: In Part 2 of GIFâ&#x20AC;&#x2122;s World Islamic Finance Investment Review we will be looking more closely at the most lucrative sectors for investments in the Islamic finance and banking industry. The Islamic finance industry is growing at an unprecedented rate and reaching a global customer base around the world as more Islamic windows and fully fledged institutions are opening up around the world. There have been a number of new opportunities that have opened up in 2012 for the Islamic investment sector which is likely to attract investors from all over the world. As discussed in Part 1 of this informative review we discussed the ways in which the new index by Crescent Wealth and Thomson Reuters provides ample opportunities for investments. In this edition of the World Islamic Finance Investment Review we will look more closely at the profitable sectors such as Sukuk, Takaful and other key investment areas in 2012 and beyond. Keywords: Islamic finance, Investments, Shariah compliancy, Sukuk, Takaful, Islamic Equity

22 Global Islamic Finance

October - November 2012

Islamic Investment The Scope for Islamic Investments in 2012 Islamic Finance is unprecedented in attracting global recognition from countries around the world which are eager to tap into the lucrative Islamic financial market. With the sector being estimated to reach $2 trillion dollars by 2012 the market is spearheading ahead. Popular commodities such as Sukuk (Islamic bonds) and Takaful (insurance) is creating abundant opportunities for both Western and Muslim populated countries on a global scale.

a number of countries and there are also many different potential investments that an investor could tap into.

Many major Islamic financial hubs present various different ways of investing both for professional investors and people who want to tap into the market. There are many key areas for investing your wealth such as the sectors of real estate, Sukuk, Takaful, Shariah compliant equities, infrastructure and energy and resources.

Islamic finance therefore has progressed since its inception into a globally renowned alternative which caters for the needs of both Muslims and Non Muslims around the world. Islamic financial investment address the investor’s financial needs which is first and foremost an important benefit to any potential investor.

The Sukuk Investment Sukuk can be best categorized as the most popular Islamic investment mode in Islamic as well as non-Islamic world. In the major Islamic Finance markets including Saudi Arabia, Malaysia, and the UAE, a growing number of entrepreneurs are starting to prefer Sukuk-structures as a source of project financing. About 31 Sukuk are listed on London Stock Market which have raised over $US 19.5 billon Although the volume of investments in Sukuk has suffered from the economic crisis, the number of new issues has continued to rise.

One of the main areas for potential Islamic financial opportunities in the hubs of Europe, America and Asia is the Sukuk and Takaful sectors as these hold many key links with well established Islamic financial hubs in the UAE and Malaysia. If your potential investment or business is not considered Shariah complaint or goes against the principles of Islam then you would be less likely to succeed in this highly competitive industry. This is due to the fact that businesses and customers wishing to utilise Shariah compliant services want the confidence and trust that the business operates in a manner that adheres to the principles of Islamic finance. It is therefore beneficial to consider the key principles of Shariah compliancy as outlined in Figure 1. Shariah Compliant Investment Sectors As discussed in Part 1 of the World Islamic Finance Investment Review we identified the lucrative sectors for investments. We are going to take a look and revisit the Shariah compliant sectors for investments as outlined in Figure 2: These Shariah compliant sectors pave the way for investments in

In 2012 there is much scope for the Islamic finance industry as since the global economic crisis it has been pivoted to the forefront and is exhibiting real potential to be a global financial industry. Many investors around the world are keeping a close eye on the potential of Islamic finance and in particularly which investments hold the most lucrative opportunities.

Investors find Sukuk highly attractive for project financing, since they are predominantly issued in developing markets with riskier environments and high-yield features. However, the key concerns that are raised are that Sukuk does not have the same le-

Prohibition of Riba interest and uncertainty

Profit Sharing/Risk Sharing

Existence of underlying asset

Prohibition of Forbidden Assets

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gal basis as conventional bonds. There have been some major Sukuk issuances in 2012 such as the Green Sukuk Working Group’s staggering issuance plans which are set to give investors ample opportunities to further excel in this niche sector. Aaron Bielenberg of the Clean Energy Business Council said “There are a significant and growing number of projects, for example renewable energy in the Middle East, that are ideally suited to sukuk investors. This group will help investors more easily identify Shariah compliant, clean energy investment opportunities.” In addition Qatar Petroleum a leading Middle Eastern company, is set to have the first corporate level Sukuk issuance in the Middle East in the capital market in 2012. Qatar plans to spend $25 billion on expanding its domestic petrochemical industry over the next decade, more than doubling its annual petrochemical production capacity from 9.2 million tons now to 23 million tons by 2020. In December Qatar signed a deal with Royal Dutch Shell to develop a $6.4 billion petrochemicals complex in the RasLaffan industrial city in the state. Earlier this month Qatar Petroleum and Qatar Petrochemical Co (QAPCO) agreed to build a $5 billion petrochemical complex at RasLaffan to produce petrochemical products mainly to be sold to high-growth markets in Asia, Africa and Latin America. There are many available investment options in the Sukuk arena that are rapidly growing and continuing to grow at an unprecedented pace.Figure 3 outlines the system of Sukuk to get a better idea of its structure. There are many lucrative opportunities for investments within the Sukuk Islamic bond sector and it may be worthwhile if you are an avid investor to research the opportunities for Islamic Sukuk around the world. Takaful Paving the Way for Investments The Takaful sector is an increasingly comfortable avenue for investments and is a sector that is showing promise in predominant growth. Takaful is becoming an increasingly popular Shariah compliant alternative to conventional methods of insurance and especially in 2011 it has reached its successful peak with companies such as Takaful Re paving the way forward. In 2011 there were over 30 registered Takaful companies worldwide writing Takaful directly and 10 more as Islamic windows or marketing agencies placing insurance 2011 October - November Global Islamic Finance 23

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Islamic Investment

risk with conventional and Takaful companies and the number is continuing to grow in 2012. In fact the number of Takaful companies is higher as all insurance companies in Sudan are deemed to operate in accordance to the Shariah principles. In addition, new Takaful companies have been established recently in Sri Lanka and Tunisia. At least four more Takaful companies are under formation in the Middle East in countries such as Kuwait, UAE and Egypt. Several other Takaful companies are being contemplated in various countries such as Pakistan, Australia and Lebanon. The countries of South Africa, Nigeria, and some of the former states of the Soviet Union are also contemplating tapping into the Takaful market. Many countries have various different global markets for Takaful. Malaysia has the largest market for Takaful premiums reaching 1,220 with Syria with the least market. Figure 7 shows the Takaful potential for 2015 in selected countries around the world to give you a better idea of the emerging Islamic insurance market.

It was estimated that the global Takaful premium could be in the region of US$7.4 billion in 15 years time in 2026, growing at nearly 20% per annum. This is not an unachievable task as the Malaysian Takaful sector is successfully growing at 60% annually and the Middle East at 10% annually. With a focused effort on part of the Takaful operators worldwide there can be the potential of a significant growth of 20% annually. Takaful is a thriving sector as investors are gaining more confidence in 2012. Malaysia doing increasingly well in promoting and launching Takaful products and Islamic finance in general. According to a study by Insurance Services Malaysia (ISM) and Life Insurance Association of Malaysia (LIAM), by 2015, family Takaful contributions would represent almost half of total insurance premiums in Malaysia. ISA and LIAM estimate that family Takaful would be valued at RM9.2 billion while conventional premiums would be worth RM10.1 billion by 2015. Islamic Equity Investments With the inception of the new specialised index by Crescent Wealth and Thomson

SUKUK FINANCE Name

Type

Underlying assets

Investor returns

Ijarah

Lease

Building, land, machinery, property

Lease payments

Istisna

Purchase order

Pojects such as roadways, power plants

Purchase payments

Mudharabah

Profit sharing

various, including shariah banking

Profit sharing

Musharakah

Profit and loss sharing

service, transport, retail businesses

Profit sharing

Wakalah

Agent

and services

Investment returns

Ijarah

Under a ijarah stucture, assets are sld to a special purchase vehicle (SPV) using funds raised from investors. Lease revenues paid by the issuer to the SPV, when are passed to investors until maturity, when the issuer repurchases the assets.

At inception Company Assets

Periodic payments Company Less payments

Asset payment SPV

SPV

Sukuk holders

24 Global Islamic Finance

Sukuk holders

October - November 2012

Company Asset payment

Assets SPV

Securities patments

At maturity

Principal repayment Sukuk holders

Reuters there will be more investors who are likely to tap into the equity investment arena. Investment in Equities with regard to holding or trading equities is compliant with Islamic Law as long as the Islamic exclusion criteria are met. Conventional mode of equity investment is quite similar to Islamic equity investment. Islamic investors can freely participate and invest in stock markets as long as the exclusion criteria is met. Investors can receive dividend payments as dividends represent investor’s share in company profits and do not represent any interest payments. There are different indexes that help Islamic Finance investors to decide which stocks are in line with the Islamic economic rules but the most prominent is DJIM. In 1990 the launch of DJIM as the first Islamic equity index created headlines across the fund management industry. Another key Shariah compliant index which had been launched in the latter part of 2011 was the Bombay Stock Exchange and TASIS which launched a Shariah compliant index to promote Islamic finance in India. The Index is the first Shariah Index created in India utilizing the strict guidelines and local expertise of a domestic, India-based Shariah advisory board. The BSE TASIS Shariah 50 index consists of the 50 largest and most liquid Shariah compliant stocks within the BSE 500. TASIS employs a strict, proprietary screening process utilizing their knowledge of and local access to listed Indian companies to ensure that all stocks included within the BSE TASIS Shariah 50 are strictly compliant with Islamic Shariah law. TASIS has adopted financial screening norms that are more conservative than its peers, making the product ideal for Islamic investors seeking investments that adhere to the strict, conservative Shariah compliance norms. Madhu Kannan, MD & CEO, BSE, said,”The introduction of the BSE TASIS SHARIAH 50 Index will give Islamic and other socially responsible investors another means to access the Indian market and will help attract pools of capital to India from the Gulf, Europe, and Southeast Asia. This index will create increased awareness on financial investments amongst the masses and help enhance financial inclusion. The index will also build a base for licensing for the construction of Shariah compliant financial products including mutual funds, ETFs, and structured products.” In addition the index launched in 2012 which is the only specialised index of its kind from Crescent Wealth and Thomson Reuters

Islamic Investment

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â&#x20AC;&#x17E;

Many investors around the world are keeping a close eye on the potential of Islamic finance and in particularly which investments hold the most lucrative opportunities

there have been longstanding indexes such as the Bursa Malaysia in the central hub of Islamic finance. However although there is room for investments on the Bursa Malaysia index the compliance of Shariah financing may have been compromised on some investments. Therefore the innovative new index to increase Australiaâ&#x20AC;&#x2122;s equity portfolio from Crescent Wealth will certainly aid in satisfying the needs of investors who want to make fully fledged Shariah compliant investments. The Islamic equities arena could highlight an untapped niche market for investing and can further attract investors from all around the world to tap into this profitable sector which is set to further advance. Many western countries are tapping into the Islamic indexes which enables the Islamic finance and banking sector to further grow and prosper in the highly competitive financial world where conventional banking is parallel to Islamic banking but differs in both its principles and systems. The Future for Investments in Islamic Finance The future of Islamic finance investments looks promising with the industry set to further excel with achievements and landmark indexes opening the beginning of 2012 there is much to be celebrated for investors worldwide. In addition more attempts to standardise the Islamic financial industry from key ex-

Figure 2: Lucrative Sectors for Investment in 2012 Sukuk Takaful Real state Infrastructure Energy & Resources

perts and leaders in the industry are helping to harmonise a framework which can be used globally. It is crucial that standardisation of the Islamic finance industry takes place in order for it to further prosper as it is propelled into the limelight. The future looks promising for Islamic investments worldwide as many global investors are seeing the benefits of investing in a Shariah compliant manner in comparison to conventional investing which has often left investors heavily in debt. If you are considering making an investment in the financial hubs listed in this two part series then it is definitely worthwhile investigation your chosen sector and you can be guaranteed a profitable investment. As an investor you can start looking for ways in which you could utilise your wealth to make key investments in your preferred country of choice and subsequently you can

balance out which country you feel has the most opportunities for your specific investment idea. Saudi Arabia has an oil-based economy with strong government controls over major economic activities. It possesses more than 20% of the worldâ&#x20AC;&#x2122;s proven petroleum reserves, ranks as the largest exporter of petroleum, and plays a leading role in OPEC. High oil prices have boosted growth, government revenues, and Saudi ownership of foreign assets which makes it a reliable and lucrative source for investments. Malaysia with its rising real estate sector and its key developments in Islamic banking and Shariah compliant products also has a lot to offer in terms of profitable long term investments. Abu Dhabi and Dubai hold much scope especially in the Islamic equity markets for if you want to see significant returns. Many investors had been sceptical about investing in Dubai due to the Nakheel World case which tumbled the Dubai market however the market is recovering and picking up steadily making it yet again a place where investments could soar. The CEO of Khalijia Invest, Mr.Muneer Al Shehri, stated that in addition to its focus on Investment activities are in compliance with Shariah, those activities are a new addition to the concept of Investment based on reality, supported by through detailed analysis and research of market and investors needs through meeting the Gulf investors expectation.

2011 October - November Global Islamic Finance 25

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Islamic Investment

Malaysia Indonesia Saudi Arabia

Takaful potential, year 2015 Takaful premium US $7.4bn Total insurance premium $1.1 trillion selected countries only 1220 1200 936

USA

853 776

Iran U&C Csd`pt UK Kuwait

467 260 192 128 128 128 91 76 64

South Africa

Turkey Philippines Morocco Syria

He further shed light on future industry potential by stating that “Beginning in the 1970s, the industry focused on the areas that provided sustained growth -- retail banking and consumer finance. Institutional and corporate banking will always be more volatile than the retail side.

Oman Singapore Lobanon Bahrain Tunisia Libya

In 2008, Islamic investors were over-invested in local equities and real estate, which amplified their losses. A diversified, balanced portfolio also takes into account the investors’ risk tolerance, liquidity, and other investment constraints; the challenge is in finding Shariah-compliant investment products with long enough track records and overall good performance.”

480

Algeria Qatar Jordan China India Pakistan

garding a sound investment. Many companies offer the opportunity to go through a plan of strategy for your investment. The key aspects that investors should focus on when devising an Islamic market investment portfolio was shared by Tariq Ali Rafai Director of Islamic Market Indexes Global Islamic Finance “Like any good conventional investment plan, a diversified portfolio based on sound investment principles is key.

However, the retail side has the most untapped potential in terms of offering investment products, Takaful and other forms of financing. Financial institutions that focus on the retail side will win over those focused on the institutional side.”

37 33 30 20 18 14 12 11

200

400

600

800

1000

1200

Source: Islamic Banking and Insurance

Sukuk is becoming a globally recognised commodity as it Takaful and the real estate and project financing sectors leave scope for investors to really get involved in the implementation of investments in upcoming buildings, roads and more.

Many investors want to indulge in Islamic finance for its ethical practices and solid Shariah framework as there are many benefits of using a non interest based system. Conventional banking institutions normally have a form of interest based products for investments and therefore Islamic finance has the edge over conventional banking practices in offering the perfect alternative. It is therefore deemed a better option and with more promotion of investment opportunities across the various different sectors of Islamic Finance there can be further growth within the industry.

It is however important that Islamic market investment portfolios are considered and looked into carefully when making a decision re-

References and Further Reading • • • • • • • • • • • • • • • • •

Sukuk Insider (2007) East Cameron Gas Sukuk, Retrieved from: http://www.failaka.com/downloads/SukukInsider001.pdf Caepco (2011) The Islamic Infrastructure Invested in Capital at JCS, Retrieved from: http://www.caepco.kz/page.php?page_id=96&lang=2&news_ id=318 European Islamic Investment Bank Becomes Largest Shareholder in Diamond Corp (2008) Retrieved from: http://www.diamondintelligence.com/ magazine/magazine.aspx?id=7248 Islamic Gold Investment- Preserve Your Money (2011) Shariah Fortune, Retrieved from: http://shariah-fortune.com/component/content/article/6-standard/24-islamic-gold-investment-preserve-your-money Islamic Banking and Finance (2011) Issue Twenty Six Summary, Retrieved from: http://islamicbankingandfinance.com/summary26.html Global Takaful Markets 2015 (2010) Celent, Retrieved from: http://reports.celent.com/PressReleases/20061129/Takaful.htm Takaful (2010) Islamic Banking and Finance, Retrieved from: http://www.islamic-banking.com/tarticle_1.aspx Sukuk Market Recovery in 2012 (2011) Trade Arabia, Retrieved from: http://www.tradearabia.com/news/bank_178648.html AME Info (2011) Islamic Retail Banking, Retrieved from: http://www.ameinfo.com/270790.html Bank Scorp: Oliver Wyman Analysis (2010), Retrieved from: http://www.inntron.com/banksys/path.htm

26 Global Islamic Finance

October - November 2012

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Marketing

INNOVATIVE

WAYS TO MARKET YOUR ISLAMIC FINANCIAL PRODUCT SUCCESSFULLY Author: David Smith, Global Islamic Finance Magazine, Editorial Staff, United Kingdom Story sponsored by Business Media Group, an expert in Islamic finance marketing, London, United Kingdom

Abstract: As part of the innovative Islamic finance and branding series Global Islamic Finance Magazine is going to take a look at the best ways to market your Islamic finance product, service or financial institution. In the last series we discussed about Islamic branding and its importance in marketing. In this edition we will be focusing on the best ways to utilise marketing strategies in a Shariah compliant manner to attract your potential customer base and maybe even grab more clients along the way. The Islamic finance industry is evolving and the competition is heightened to the extent that many Islamic financial windows and fully fledged institutions are being set up worldwide. There is more and more choices being established for customers around the world that many Islamic financial institutions need to find unique ways to attract the market. In 2012 we can see the rapid advancement of technology which can pave the way for marketing your products and services successfully. This is a must read for any financial institution, business professional or avid learner who wants to know the best ways to market their products or services in a Shariah compliant way. Keywords: Islamic Finance, Marketing, Branding, Customers, Products, Services, Shariah Compliancy, Islamic Banks

A Three Way Approach to Islamic Financial Marketing There are a number of ways in this day and age of marketing a product and attracting our target market. With the growth of technology including social networking reaching a wider audience has become easily accessible if it is done in the correct way and marketed properly. All Islamic financial professionals and businesses are aware that any product, service or organisation has to be marketed in a way that adheres to the principles of Islamic finance as outlined in Figure 1: The principles of the Shariah have to be adhered to when considering marketing platforms of any type as highlighted in Figure 1. 28 Global Islamic Finance

Many Islamic financial institutions including leading entrepreneurs and investors wishing to tap into the industry have to ensure that they strictly avoid interest (riba) and ensure that all their dealings are done in a manner which adheres to the principles of Islam. This can gather customer trust and can also create a better reputation for the companies as when customers trust the products and services then they can fully indulge further into what the company has to offer. GIF has identified a three way approach to marketing your product successfully and this is three identifications of avenues to market your product. These three avenues are outlined in Figure 2.

October - November 2012

The three platforms for marketing your Islamic financial product are through digital marketing, print marketing and traditional marketing which will all be discussed in greater detail so that you can decide which works best for your company. Some Islamic financial companies who have had success in their marketing brands have chosen to use all three ways of attracting their customer base. If all three avenues of marketing are utilised you can be sure that you would attract and substantial customer base because more people will be aware about your company, products and services. However this can often be an expensive task and some smaller

Marketing Islamic financial companies may not be able to utilise all three methods therefore it is best in this case to utilise one or two avenues for marketing your product. Utilising Digital Marketing Platforms Digital marketing is revolutionising the way in which companies advertise their products and services. It has become a necessity for all successful or big corporations to have a solid digital presence from an online website to social networking on Facebook and Twitter. The traditional forms of print marketing is not merely enough to succeed in attracting your customer base which is so largely reliant upon the information exposed to them on the internet and through various online platforms. There are so many ways of utilising the digital platform for marketing your Islamic financial product or service however all Islamic financial institutions have to be aware of adhering to Shariah compliance in endorsing any Islamic finance product or service. More and more investors are tapping into the Islamic financial industry from all over the globe and its global demand has been further promoted and highlighted through the use of the World Wide Web.

Social Networking The social networking market has given the opportunity for companies around the world to promote their business in addition to products and services to reach a wider global audience. The most popular social networking websites are Facebook and Twitter which see a global audience from all over the world contributing their thoughts, views and opinions in addition to successful companies starting up pages to promote their products. Some companies even use social networking websites to advertise their business as there are countless opportunities for consumers to tap onto Facebook and come across an advertisement regarding Islamic finance. It is a good idea if you have not already tapped into the social network-

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Press Releases & Online Financial News Agencies You can create press releases about your latest products and services through the use of your own corporate website or what would be more beneficial is using an online financial news agency. There are numerous news agencies specialising in Islamic finance and banking which are available on the internet and if you do have a good story regarding your company what better way to promote it then through these websites. Press releases can keep customers up to date and further promote your company on its achievements and improvements within the Islamic financial world.

Advertising Advertising your brand on a digKey principles underlying islamic ital platform is key in engaging finance your target market and also offers scope for global consumers to tap into your products and services. It is important to ensure that your company, products and should Prohibition of riba be endorsed in a Shariah compliant manner so advertising has to adhere to the principles of the Shariah. Advertising online can be done through various different IsProhibition lamic financial agency websites or Prohibition of frobidden asfinancial news websites in addition of uncertainity sets (e.g. alcohol, to social networking sites. You can Islamic gambling) even advertise on your own corpoFinance rate website. The more advertising you include for your brand will ensure that more people know about your company and products and will help further spur the success Profit sharing Existence of an of your company. and risk

The online platform provides plenty of scope for an interested customer or investor to tap into information in an easily accessible form. It also allows companies to create innovatively creative branding materials to market their products from posters to fliers and imagery which can capture your target audience successfully. If you are a company thinking of tapping into the digital branding era then it is worth looking into the various platforms which utilises modern day technology to further spur the success of your business or company.

Discovering Marketing Opportunities on the Internet The internet has taken the digital world by storm and since its inception it is now part of our everyday lives from looking up information to seeing key business opportunities. The internet plays a pivotal role in todayâ&#x20AC;&#x2122;s world of marketing and is a vital tool for any Islamic financial institution wishing to utilise the digital branding era. There are many ways to implement promotion of your company as outlined in Figure 1 however we will take you through a detailed review of implementing internet resources to market your Shariah compliant brand on a digital platform.

sharing

underlying asset

ing method of branding to try to develop a page with your marketing team to successfully promote your business and this can be done by creating an account with any social networking website. Your corporate website will say a lot about your brand and the products and services you have to offer. It provides the basis for the ethos of your company and you would need to ensure that it is maintained and constructed to the highest quality in order to utilise successful branding techniques. Through your corporate website you can give the opportunity for global clients across the world to tap into your company and learn more about it. A good marketing dialogue for your website and relevant information can help further spur the success of your company in addition to providing relevant addresses and company contact numbers.

As you can see there are various ways in which you can market your product successfully through the use of digital marketing in order to further excel in the competitive Islamic financial market and attract a solid customer base. Targeting Print Marketing to Enhance Your Business The Islamic finance industry is expanding rapidly and the nature of marketing strategies has also given light to many companies seeking new innovative ways to target the growing market. However not every company wants to folk out on highly expensive digital modern technological techniques and many successful Islamic financial institutions rely on traditional ways of marketing to grab their target audience. Islamic financial institutions, banks and companies may choose to go down the traditional route of marketing by using literature, posters, personal networking at conferences, events and seminars and advertising to further expand their

2011 October - November Global Islamic Finance 29

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Marketing

Figure 2: Three Way Approach to Marketing Digital Marketing Print Marketing Networking

Figure 3: Digital Branding Platforms Online- The Internet Social Networking such as Facebook and Twitter to promote your product and create company pages Corporate Websites- Enlisting information about the company Press Releases Online- Giving updated and latest news about your company Financial News Agencies Online- To market articles on your business Islamic Institutions Websites Advertising from Financial Websites and Islamic Institutions Islamic Media Online Outlines for advertising, articles and promotion Modern Technology Mobile Phone Technology such as mobile banking Mobile Alerts from your company websites Wide Screen TV Plasma Technology to Promote in the IFI

Figure 4: Traditional Marketing Techniques Advertising Literature Press Releases Financial Publishers Websites Sponsorship Marketing at conferences and seminars

customer base. These traditional methods are more cost effective and can further get your company noticed especially if it is facilitated correctly and you gather a good team of support to help you along the way. When investigating the various types of traditional marketing strategies that could be used to effectively promote Islamic financial institutions, banks or companies we have to consider the traditional ways of marketing that we can utilise today as discussed in Figure 4: Advertising your company forms the basis of traditional marketing techniques. You can choose to advertise through financial publications, posters and the online platform which is key in engaging your target market and also offers scope for global consum30 Global Islamic Finance

ers to tap into your products and services. It is important to ensure that your company, products and should be endorsed in a Shariah compliant manner so advertising has to adhere to the principles of the Shariah. Advertising can be done through various different Islamic financial publishers or news agency websites or financial news websites. You can even advertise on your own corporate website. The more advertising you include for your marketing strategy will ensure that more people know about your company and products and will help further spur the success of your company. Advertising can be utilised through marketing consultants who can help you to build your company logo and brand and further spur the overall appeal for your financial institution. You may decide that advertising in collaboration with brand names such as mobile phones that will sponsor your products and services can be an effective way of targeting the market. There are many posters, bill boards and magazine advertisements that capture the eye of the reader especially if they are endorsed by a popular brand. It is inevitable that not all industries will be suitable to endorse your Islamic financial product and therefore you would have to look into Shariah compliant companies and products to do so. In order for traditional methods to work in the fast paced industry advertising is a must for any investor, company CEO or entrepreneur. Literature, Press Releases and Financial Publishers Many companies traditionally used to create pamphlets, leaflets of literature to advertise and give more information about their company and services. This can provide a person with the information you want them to know and take home. However be aware that nowadays most people will read a leaflet and then it becomes second nature to dispose of it without taking it in. This is mainly due to the digital revolution where everything can be found online and information is easily accessible from the internet at a touch of a button. Most people prefer to use internet platforms for information therefore some forms of literature marketing may not be substantial enough in attracting your target audience. Press releases which can be done through financial publishers are also a good way of keeping your target market in the know about your company and the latest updates. However again due to the traditional form of marketing press releases become less effective if they are not done in a digital platform. . Press releases in newspapers or financial magazines can keep customers up to date and further promote your company on its achievements and improvements within the

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Islamic financial world. However there are tangible methods of creating press releases with substantial scope to target the market in a traditional manner. Discovering the Power of Networking Although many people might not view networking as a key way of advertising it is most definitely a great way of marketing your products and getting to meet key contacts within the industry. This can further help you with important marketing concerns such as sponsorship and advertising. There are many ways of networking such as through social networking online via popular social networking sites such as Facebook and Twitter. In addition marketing your company, brand, product and services at conferences and seminars is another traditional way of grabbing your consumer base. By showing that you have charisma and drive and a passion for your product and services, investors or sponsors wishing to collaborate in your business will be more likely to take you seriously. Traditionally many entrepreneurs would exhibit their ideas during worldwide financial conferences and seminars in order to attract the target audience and grab customers from around the world. This is a successful tool in networking the traditional way and can be a good way of meeting key people in the financial world in addition to gaining sponsorship although you need to be confident and have good flair when you are selling your ideas, products or services. Many financial institutions have gathered key sponsors collaborating with big named brands and financial banks which have come together to help spur the success of their company. Sponsorship can provide a mechanism of support to a financial institution or company and really spur your company forward. There are many ways to engage sponsors through meeting social financial gatherings, networking, forums and various conferences and seminars. This will give you the relevant scope to meet important contacts who may be of help in sponsoring your brand or product to its full potential. Introducing your Islamic financial product, institution or service through advertising or speaking at Islamic financial seminars and forums such as the prestigious Euro money and IIFA can really help spur the success of your company. There are various global organisations that can help you to achieve your advertising goals and can aim to provide time for your company to exhibit themselves in a relevant seminar. It may be worth looking into the various possibilities available to really achieve your goals of promoting your company the traditional way. Islamic financial forums and meetings also provide the opportunity for your company to

The implementation of an interest-free banking system raises a number of questions and potential problems. For Islamic banking to be successfully introduced in Zimbabwe, it is necessary to educate the public on its nature, opportunities and strength. The status of the banking system in Zimbabwe requires a different way of doing business. One effect of this may be to solve the economic problems faced by the country. With many businesses having collapsed due to prohibitively high cost of funds, a non-interest system will bridge this problem. The interest rate regime has caused financial disintermediation in the economy, contributing to itâ&#x20AC;&#x2122;s collapse and the contraction of Zimbabweâ&#x20AC;&#x2122;s Gross Domestic Product.

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gain sponsorship which is crucial if you are considering traditional marketing strategies as your sole strategic marketing plan. You may also be able to gain sponsorship from Islamic Certified Accreditors such as CIMA or other relevant companies which cater for your individual company needs and requirements. The Key to Success through the Three PlatInteresting Fact In July 2012 ethical marketing agency, Business Media Group with headquarters in London, has launched unique service called ‘We Are Your Marketing Department’. The service aims to help Islamic financial institutions, consultancies and other finance business sell and market their products to Muslim and non Muslim customers. Business Media Group is a partner who can turn strategy into a practical and affordable plan. Have you ever considered outsourcing some, or even all, of your marketing? Doing so can help you achieve your business goals if you don’t have a marketing department, or it can give you more hands and fresh ideas if you do. Here are some benefits to consider: •

•

Fill skill gaps. Since media is increasingly fragmented, communications programs are more complicated. You can’t be an expert in every medium and understand the needs of each of your target audiences if your products are sold across vertical industries or have key purchase influencers from several departments. Reduce overhead. You don’t need to hire an individual or team for a specific program. Just outsource an expert. That way you don’t bear the hidden costs of recruiting, training, furnishing an office, and employee benefits. Salary is just a fraction of employment costs. Eliminate bias and leverage a broader, different perspective. Outsourcing eliminates the «We’ve always done it this way» mentality. You can access the strategic thinking and creative expertise of a marketing professional free of internal political baggage. Improve your focus. Outsourcing helps you to focus on the core competencies of your business. Talk to your customers or your sales team. You can then provide strategic, insightful direction and play to your strength. You’ll help to reduce your risks and maximize the return on investment in your marketing programs with input from the front line. Jump-start your marketing instantly. Outsourcing gives you access to experienced marketing professionals who can quickly develop plans and campaigns on the tightest of schedules. You can just say «Run with it» and start focusing on the crush of your other competing priorities. Business Media Group recognises the importance of high standards of social, ethical and environmental behaviour.

For more information please visit www.businessmediagroup.co.uk 32 Global Islamic Finance

forms of Marketing IF Products The key to success in marketing your Islamic financial product, service or institution is to thoroughly research your target market, take a look at your competitor companies. What works well for successful Islamic financial institutions when they market their products? If you address these questions you will begin to see a growing trend in the way in which Islamic financial products are marketed in a Shariah compliant way and can adapt techniques in marketing to your own brand or institution to further attract more customer. Many Islamic financial corporations find that the digital marketing strategies have enabled them to reach a target customer base all around the world and can often be cheaper when you think of advertising through social networking and building an online presence. If you build an online presence this could be a key way of advertising your unique selling point in your company. What makes your product, service or brand stand out from the rest? What can you identify as being beneficial for the potential customer or investor? These questions need to be addressed in order to set you aside from the host of competitor companies or brands. In addition customer trust and respect for an Islamic financial institution can only be earned by adhering to the principles of Shariah compliant financing and that is to endorse products in a Halal way that adheres to Islam. Therefore no product, service or brand should be endorsed by sponsors who go against the principles of Shariah and therefore no industries such as alcohol should be used when building sponsors for your brand. In addition sponsors and imagery which you are going to have for your potential product should be respectable and compliment the products and services that you are trying to sell. There are many effective forms of marketing as discussed in this article but the best ones reach a wider audience without much hassle such as through digital marketing. Traditional forms of print marketing are also a great way of getting notice there are many people who enjoy reading paper printed leaflets, advertisements or articles and through this they will be informed of the product or service. Many Islamic financial institutions have been featured in magazines and newspapers and it may be worth taking a look at the scope of Islamic media to endorse your product or service. There may be a fee for advertising but it will reach a wider audience and attract more customers to your institution. Networking is another effective way of meeting key contacts and further excelling the highly competitive market. By showing you have charisma and drive can further im-

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press potential financial institutions and you may have left a lasting impression about yourself and most importantly what your company stands for. Building a presence at Islamic financial conferences, seminars and events will also get your financial institution or brand noticed as more and more people will become aware of your products. It is always important to investigate the various avenues available in marketing your product so that you can keep your options open and combining digital and traditional method of marketing may provide you with the perfect balance you are looking for. Any form of marketing has to adhere to the principles of the Shariah and this should be considered as the first and foremost point of action for your strategy. There are challenges to marketing your product, brand or business however collaborating with digital branding platforms can further help you to spur your company forward. References and Further Reading Wilson, J.A.J and Liu, J. (2010), “Shaping the Halal into a brand?”, Journal of Islamic Marketing Putting the Halal into brands or branding the Halal (2010) Retrieved from: http://oxfordislamicmarketing.sbsblogs.co.uk/op-eds/putting-thehalal-into-brands-or-branding-the-halal/ Al Shawi, Irani& Baldwin: (2003) Benchmarking Information Technology, An International Journal of BenchmarkingIqbal M, Islamic and Conventional Banking in the 90’s (2000): A comparative study: Loughborough University Press Warde I, Islamic Finance in The Global Economy (2000): Edinburgh University Press Ogilvy Noor Spearheads Islamic Branding Drive (2010) The Drum, Retrieved from http://www. thedrum.co.uk/news/2010/07/05/14589ogilvy-noor-spearheads-islamic-branding-drive/ Islamic Finance Branding (2010) The Review Middle East, Retrieved from: http://www.thereviewme.com/2010/11/islamic-finance-branding-the-old-way/ Al Shawi, Irani& Baldwin: (2003) Benchmarking Information Technology, An International Journal of BenchmarkingIqbal M, Islamic and Conventional Banking in the 90’s (2000): A comparative study: Loughborough University Press Warde I, Islamic Finance in The Global Economy (2000): Edinburgh University Press EIB and Arabian Automobiles Launches Promotion (2010) Retrieved from http://www. globalislamicfinancemagazine.com/index. php?com=news_list&nid=838 list&nid=838 Ogilvy Noor Spearheads Islamic Branding Drive (2010) The Drum, Retrieved from http://www. thedrum.co.uk/news/2010/07/05/14589ogilvy-noor-spearheads-islamic-branding-drive/ Z. Akhtar Aziz, (2006) Focus on Human Capital Development in Malaysia, BIS Review, Retrieved from: http://docs.google.com/ viewer?a=v&q=cache:QNpjzL5F-68J:www.bis. org/review/r061220b.pdf+strategic+leadershi p+islamic+finance

Market Review

EGYPT ISLAMIC FINANCE PLANS INCLUDE BOOSTING WAQF Source: GlobalIslamicFinanceMagazine.com

It had been reported that the Freedom and Justice Party, the parliamentary arm of Egypt’s Muslim Brotherhood, aims to develop the practice of waqf or religious endowments as part of its plans to expand the use of Islamic finance, a party official said. In waqf, people contribute a portion of their wealth, in cash or other assets, to Shariah-compliant and charitable projects such as mosques and schools. But the management of such endowments in Egypt has been widely criticized as inefficient. Ahmed al-Najjar, a member of the FJP’s economic committee, said in a telephone interview this week that waqf endowments (awqaf) in the country totalled about half a trillion Egyptian pounds ($82 billion), but the yield on them was very low - according to a report by the Ministry of Religious Endowments, it is about 1.5 billion pounds annually, he said. One problem is that managers of a waqf often lack financial expertise, in contrast to countries such as

Turkey and Malaysia. The solution may be to encourage the hiring of experienced financial managers for awqaf, Najjar said. Another proposal under consideration by the FJP is to encourage the formation of awqaf not through a contribution from a single wealthy donor, but through multiple small subscriptions to a sukuk (Islamic bond) offered publicly. The proceeds of the sukuk could then be used to purchase waqf assets. This would expand the number of people involved in awqaf and give managers more flexibility to invest endowment money, Najjar said. Despite the election victory in June of Egypt’s President Mohamed Mursi, backed by the Brotherhood, a new cabinet has not yet been formed and there is no fully functioning parliament or constitution.

Shariah-compliant financial instruments to be used in monetary policy. For example, Islamic instruments could be used by the central bank for short-term financing operations, allowing authorities to benefit from the liquidity held by Islamic banks, he said. “We want the introduction of these tools along with traditional financing tools,” Najjar said.FJP officials have previously said they aim to boost the market share of Islamic banks in Egypt to 35 percent in five years from roughly 5 percent now but by increasing the total size of the banking sector, not by penalizing conventional banks. Najjar said his party was also considering how Islamic investment funds could be launched to support the growth of small and mediumsized enterprises, which are crucial to create jobs.

This is likely to delay any administrative or legislative moves to boost Islamic finance. But Najjar said the FJP would push for the creation of 2011 October - November Global Islamic Finance 33

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Market Review

ISLAMIC INVESTMENTS GLOBAL DEMAND Source: GlobalIslamicFinanceMagazine.com

It has been reported that according to the World Wealth Report 2012, released by Capgemini and RBC Wealth Management, the Middle East was the only region where wealth increased among individuals of high net worth, who are often defined as those with $1 million in investable assets. And while private bankers say that most of their clients are not trying yet to bank according to Shariah law, they say the market will evolve. Islamic finance, which is becoming the more preferred mode of finance by many compared with conventional banking, is expected to be a global industry in three years, driven by its transparent and ethical business practices. Dr Paul Temporal, an associate fellow at Said Business School at University of Oxford in the United Kingdom, said Islamic finance would continue to grow, especially when conventional banking continued to have issues around the world. “Malaysia, in particular, is one of the world’s leaders in this area,” he told a press conference at the launch of a white paper entitled “The Next Billion, The Market Opportunity of the Muslim World”, which he co-wrote with Yusuf Hatia, Senior Vice President and Global Chair of Fleishman-Hillard Majlis. Fleishman-Hillard Majlis is a newly-launched specialist offering by public relations company, Fleishman-Hillard International Communications, aimed to engage with the Muslim consumer market.

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According to the report, the current global Muslim population estimated at 1.8 billion, would likely increase by 35 per cent to 2.2 billion in 2030, with 60 per cent residing in the Asia Pacific region and 20 per cent in the Middle East and North Africa. Axiata Group Bhd. (6888.KU) Thursday said it plans to raise up to $1.5 billion by issuing multi-currency Islamic bonds to secure cheap longterm funds and improve capital efficiency. Malaysia’s largest mobile telephone company by sales said in a statement to the stock exchange that it would be the first Asian telecommunications company to issue multiple currency Islamic bonds, or sukuk. It didn’t specify which currencies, nor did it specify maturities or the number or size of tranches. It called the issuance “strategic” as it would appeal to regional investors while also introducing the company to a diverse pool of investors across the Middle East and Europe, increasing its prospects for future fundraising. Islamic financing differs from conventional financing in that it adheres to Shariah, or Islamic law, which prohibits the charging of interest and discourages speculation or benefiting at the expense of others. Sukuks were first sold in 1990 by a Malaysian unit of Royal Dutch Shell PLC (RDSA. LN). They comply with Shariah by replacing coupons with payouts derived from tangible assets, such as leases or joint ventures.

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Axiata plans to count air time vouchers– minutes on its mobile network–among its assets underlying the sukuk. “Whilst Axiata has no immediate funding requirements, having the programme in place will enable the Group to remain nimble and able to move quickly in the event of any changes and demands of the marketplace,” Group Chief Financial Officer James Maclaurin said in the statement. The sale will also support government efforts to position the Southeast Asian nation at the centre of global Islamic finance, President and Chief Executive Jamaludin Ibrahim said. Malaysia accounted for 68.7% of the $84.4 billion worth of sukuk issued worldwide in 2011. Global sukuk issuance totaled $43.5 billion in January-March, 55% more than in the same period last year, and with Malaysia accounting for 71%. Malaysia’s primary need for capital comes from large infrastructure projects, such as an urban rail transport project, under the government’s Economic Transformation Program. This initiative began in 2010 with the goal of turning the economy into a developed economy by 2020. CIMB Bank Ltd., HSBC Amanah Malaysia Bhd. and Merrill Lynch (Singapore) Pte. Ltd. will be the joint lead arrangers for Axiata’s planned sukuk sale.

Market Review

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INDONESIA FLOURISHES IN ISLAMIC FINANCE Source: GlobalIslamicFinanceMagazine.com

million) from Rp 500 billion after investors sought 2.2 times the amount first offered, Finance director Hendiarto said. Corporate sales have reached Rp 1.5 trillion so far this year, compared with just Rp 200 billion for the whole of 2011. Etty Retno Wulandari, a Jakarta-based director at the Capital Market and Financial Institution Supervisory Agency, said last month she expected 2012 offers to get to Rp 3 trillion. However, official data shows the 20 percent average growth in outstanding corporate sukuk over the past five years still trails the 40 percent expansion in Islamic banking assets.

Indonesia is flourishing in the Islamic finance and banking industry with its three best-performing Islamic bond funds say a rebound in corporate sukuk sales is failing to keep up with demand from investors chasing higher returns as government yields decline. Insight Investments Management’s top-ranked IHajj Syariah Fund wants to boost company holdings from 80 percent if more securities become available, President director Tony Henri said in an interview in Jakarta last week. Akbar Syarief, fund manager at MNC Asset Management, overseeing the secondbest performer, said his confidence in finding buyers is not matched by certainty there will be sufficient supply. “Right now the concern is that when money comes in, there may not be securities to invest in,” Jakarta-based Syarief, whose MNC Dana Syariah vehicle returned 3.8 percent this year, said in a June 26 interview. “Corporate sukuk will always be in high demand.” The yield on Indonesia’s Shariah -compliant rupiah bond due August 2018 fell 1.12 percentage points in the past year to 6.20 percent, compared with the 8.1 percent average return for Indonesia’s six sukuk funds over the same period. Bank Muamalat Indonesia lifted its June sale to Rp 800 billion ($85

“Our fund could be much bigger but Islamic bond issuance isn’t growing as fast as banking assets,” Insight’s Henri said. “We don’t actively trade the company sukuk because once we sell it, it is difficult to look for new products to invest in.” Worldwide sales of bonds that comply with Islam’s ban on interest climbed to $21 billion in 2012 from $14 billion in the same period of 2011, according to data compiled by Bloomberg. Offerings reached a record $36.7 billion last year. Malaysia, the world’s largest sukuk market, has exempted investors from paying taxes on capital gains made on Shariah -compliant debt denominated in currencies other than the ringgit through 2014. Indonesia offers no similar incentive because it is committed to keeping Islamic products on an equal footing with non-Islamic securities, the Capital Market Agency’s Wulandari said last month. “There needs to be tax benefits for the Shariah -compliant capital market to grow,” Insight’s Henri said. “Issuing Islamic bonds requires more processing and there needs to be a pay-off to make them more or equally lucrative as conventional bonds.” The I-Hajj Syariah fund returned 4 percent this year and 10.3 percent in 2011, the most among the six Indonesian sukuk vehicles tracked by Bloomberg, which advanced by an average of 3.1 percent in 2012 and 8.8 percent

last year. Assets held by Islamic bond and stock funds in Indonesia increased by an annual average of 96 percent over the last five years and account for 3 percent of the nation’s total managed funds, Capital Market Agency data show. “We plan to launch more sukuk funds going forward, if there are products,” MNC Asset’s Syarief said, adding that he would like to increase his allocation for corporate notes to 70 percent from 50 percent. “Government Islamic bonds tend to be more volatile and yield lower, so we need to balance our fund with corporate notes.” Global Shariah -compliant bonds returned 5.1 percent this year, according to the HSBC/NASDAQ Dubai US Dollar Sukuk Index, while debt in developing markets gained 7.8 percent, JPMorgan Chase & Co.’s EMBI Global Index shows. The average yield on Islamic bonds fell one basis point, or 0.01 percentage point, to 3.44 percent on June 29, the lowest since August, according to the HSBC/NASDAQ Sukuk index. The difference between the average yield and the London interbank offered rate, or Libor, narrowed three basis points to 240 basis points. Corporate Islamic debt sales in Indonesia this year amount to just 2 percent of Malaysia’s 23.4 billion ringgit ($7.4 billion) of issuance in the same period, even though the former nation’s Muslim population is twelve times as big as its neighbours. “Indonesia’s corporate sukuk market has a bright outlook,” Ruben Sukatendel, a Jakarta-based portfolio manager at BNI Asset Management, said in a June 27 interview. “It is possible that Indonesia’s Islamic capital market may catch up to Malaysia’s if we see synergy between players and regulators,” said Sukatendel, who oversees BNI Dana Syariah, the country’s debut sukuk fund and the third-best performing this year.

2011 October - November Global Islamic Finance 35

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Market Review

ISLAMIC BANKING AN ETHICAL OPTION IN SOUTH AFRICA Source: GlobalIslamicFinanceMagazine.com

Islamic banking has been growing in demand in South Africa from both Muslims and Non Muslims who recognise the ethical methods and principles that govern Shariah compliant finance. More than 100000 South Africans make use of the Shariah -compliant banking products of local banks. Eric Enslin, head of client engagement at FNB Wealth, said the Shariah customer base is not exclusively Muslim.

“Any company - small, medium or large - that chooses an alternative to conventional banking can make use of the Islamic business bank offering,” said Rautenbach. “During June the Islamic Forward Exchange Contract [FEC] from Absa Capital will be launched to support international trade by Islamic banking customers. Support for companies wishing to do international business is a current focus and products in the pipeline include a unique working capital solution and letters of credit, which will be Shariah -compliant.”

Enslin said Shariah banking is consistent with the principles of Islamic rulings and their practical application through the development of Islamic economics. Shariah prohibits the payment or acceptance of interest charges (riba) for the lending and accepting of money, as well as trade and other activities that provide goods or services considered contrary to its principles. With Shariah products, profit comes exclusively from the nature of the agreement. “There are a number of ways trade contracts can be set up, such as rental with a view to ownership, cost plus mark-up, and more,” Enslin said. “An example of a rental agreement could be the financing partner [the bank] purchasing the asset on the client’s behalf and renting the goods to the customer at a fixed rental repayment price over an agreed period. The rental amount would include the bank’s profit mark-up that is agreed at the inception of the sale. The agreed repayments are not subject to any fluctuations, irrespective of market conditions.” Without any fluctuations, Enslin said, the customer can rely on a constant repayment amount throughout the period of the contract. This provides the certainty required by Shariah, and the stability is a win-win for bank and customer, said Enslin. “The structure of Islamic finance products is gaining rapid acceptance as a viable alternative to traditional Western banking. This is because the sale and buy-back agreement between 36 Global Islamic Finance

the financier and the customer is agreed when the partnership is entered into. The terms of the sale and the profit margin are fixed.” FNB’s Islamic product client base has been growing at 25% a year, showing rising demand.Absa’s head of retail markets, Arrie Rautenbach, said the Islamic banking product choice is available to anyone - and for reasons beyond the usual. “Many nonMuslims choose Islamic banking products because they like knowing that their funds will never be invested in industries that are potentially negative for society, such as alcohol, tobacco, gambling . Absa also offers an Islamic will, Islamic risk cover (Takaful), Islamic business banking and Islamic private and wealth banking. Even Shariah -compliant exchange traded funds (ETFs) such as NewGold and the Shariah Top 40 ETF are available through Absa Capital.

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Will you never earn or be charged interest if you opt for a Shariah -compliant bank account? “Conventional banking pays interest, which is a guaranteed amount,” said Rautenbach. “Islamic banking pays a profit share, which is not guaranteed as it is the sharing between the customer and the bank of profit earned by the bank on the customer’s behalf. Shariah compliance also requires complete transparency of contract, so the customer knows in advance what his or her expected share of the profit earned will be. “Islamic finance products require that there is an underlying asset. This is one of the reasons why Islamic banks fared better in the recent economic meltdown than many conventional banks. For example, in a vehicle finance transaction, after being mandated by the customer, the bank buys the car and agrees with the customer what profit markup will be added to the purchase price. The cost of the car plus the profit mark-up is then divided by the number of months the customer chooses for repayment to arrive at a monthly repayment amount for the duration of the contract - this could be anything up to 72 months. What the Reserve Bank does with interest rates will not affect the payments as interest is not part of the transaction,” Rautenbach explained.

Market Review

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SAUDI ARABIA BOOMING ISLAMIC FINANCE ASSETS Source: GlobalIslamicFinanceMagazine.com

Saudi Arabia is one of the main contributors to the Islamic finance industry, with an estimated $94 billion in Islamic finance assets representing 26 per cent of the GCC total, a report said. Saudi Arabia’s contribution is also valued at 8.2 percent out of total global Islamic finance assets, added the Deloitte Middle East Islamic Finance Knowledge Center (IFKC) report entitled ‘Empowering Risk Intelligence in Islamic Finance’. It addresses and investigates the important issues in practice and regulation in Islamic finance in the current market challenges. The report also assesses the impact of Islamic financial institutions in different countries. The report also focuses on the governance and structural aspects of an effective risk management framework in Islamic finance. It presents new findings in the practice of Islamic Finance risk management that offer guidance o boards in managing risk in troubled times. It is based on a survey and group of case studies developed during the second half of 2011, on 20 leading Islamic financial institutions from the Middle East and South East Asia, with aggregate assets of more than $50 billion. It also includes several interviews conducted with industry leaders and risk management executives. “Greater pressure has been placed on financial institutions offering Islamic Financial services to galvanize risk exposure and governance capabilities,” said Dr Hatim El Tahir, director of the Deloitte Middle East IFKC. “Global and regional jurisdictional regulatory reforms are continuing. How this regulation will affect the Islamic Finance sector and the role of IIFS in the economy is yet to be seen,” he added. The Deloitte report finds that Saudi Arabia saw the launch of one the first and most important institutions in the Islamic finance industry. The Islamic Development Bank (IDB) is a multilateral development financing institution established in Jeddah in 1975. Up until today, the IDB

largest company being The Company for Cooperative Insurance (Tawniya) with total assets of $1.9 billion. The concept of Cooperative Insurance was introduced in KSA in 2003 after all conventional insurance companies were exempted from Saudi Arabia and the cooperative insurance regulations were passed, setting the basis of providing insurance on a cooperative basis in accordance with Islamic Shariah. However there was no detailed guidance as to what constitutes cooperative insurance but it is accepted that there are differences to the Takaful model.

has contributed over $200 million of technical support to nearly 70 Islamic financial institutions around the world. Furthermore, Saudi Arabia saw the establishment of other prominent institutions that played a role in the advancement of IF. This includes the founding of the International Association of Islamic Banks in 1977, with a goal of promoting and facilitating cooperation between Shari’a-compliant financial institutions, as well contributing to harmonization of the industry on an international level. Today, there are four Islamic Commercial Banks operating in Saudi Arabia. They include: Al Rajhi Bank, $58.8 billion total assets; Bank Al Jazira, $10.3 billion total assets; Alinma Bank, $9.8 billion total assets and Bank Albilad, $7.4 billion total assets. Aside from Islamic commercial banking, cooperative insurance industry evolved considerably in the kingdom during the past 9 years, the report said. There are currently more than 30 cooperative insurance companies, total assets of over $7 billion with the

The sukuk market in Saudi Arabia is considered the third largest in the world after Malaysia and UAE, according to the IIFM Sukuk report. Total issue number of 25 with issue size of $17.1 billion up until December 2011. The single largest sukuk issue ever was issued from General Authority of Civil Aviation in Saudi Arabia in January 2012 with an issue size of $4 billion on a Murabaha. Many Islamic finance forecasts and analysis predicts that Saudi Arabia and South East Asia will dominate the sukuk market in 2012 with high quality quasi-sovereign issues. However, in light of the global regulations in the financial services industry, Islamic Financial institutions are being heavily impacted, the report said. Islamic financial institutions and their systems of governance will continue to evolve as new regulations are issued, it added. Executives of Islamic financial Institutions, along with executive risk offers, will equally play an important role in coordinating risk management implementation and activities between boards and Shariah supervisory boards and other business supporting units in the institution, according to the report.

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Interview

INTERVIEW WITH DR JOHANNES ENGELS, Senior Advisor, Federal Financial Supervisory Authority, Germany How is the Islamic finance and banking industry progressing in Germany? In the last decade, a German federal state was the first European issuer of a 100 million Euro asset backed Sukuk, structured as a Sukuk al Ijarah, which is listed on the Luxembourg Stock Exchange. The debts of this Federal state were guaranteed by the German State. The whole Sukuk was based on the Ijarah construction, a sale and leaseback transaction: The German State, represented by the Ministry of Finance, sold a number of buildings to a special purpose vehicle (SPV) and then leased them back. The subscribers of the SPV received a variable rent over the whole period. This rent was aligned to the EURIBOR, which was chosen as benchmark. This special purpose vehicle was based in the Netherlands due to tax reasons. After five years this Federal state repurchased the real estate objects and paid back the price, which went directly to the shareholders of the SPV. This transaction worked very successful and is still now something like a German “flagship” in the field of Islamic finance. Some German major banks use since several years so-called “Islamic windows” in the Gulf region and in Malaysia. Besides this, there is now a credit institution from abroad in contact with the German Federal Financial Supervisory Authority - BaFin, which wants to 38 Global Islamic Finance

get a full banking license with the target to offer Muslim-based banking services in Germany. I like to point out, that two major insurance companies, Hannover Re Group and Allianz, offer Shariah compliant products to their customers. Both of them serve only clients outside of Germany, mainly in Indonesia, the Gulf States and Malaysia. Allianz, one of the biggest global providers of insurance, banking and asset management services, opened a branch in Indonesia, which is specialised in Shariah compliant products. Hannover Re Group, one of the major reinsurance groups worldwide, offers Takaful insurances to companies that operate according to the Shariah. You recently took part in the World Islamic Finance Conference 2012 in London, how do you think this conference benefits industry professionals and others? My colleague, Mr. Elsen and myself took several times part at Islamic Finance Conference in the world; we made just very good and fruitful experiences with Fleming Gulf Corporation as an ideal co-operation partner. There, we had and still have a good possibility to inform interested experts about recent developments in Germany. As well, there is the basis for networking for us, because BaFin will organize an own conference to this important topic in the near future in Frankfurt upon

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Main. All this is deeply embedded in the general experience of a good communication between the financial services industry and the supervisory entities. This is the running experience since a lot of years. Tell us more about your role as Senior Advisor for the Federal Financial Supervisory Authority and what your responsibilities are at BaFin? Thank you very much for this occasion. Please let me point out first, that I can only give you this interview with my opinions as a private person. I really like to inform you, that I am involved in the department for international affairs, which is a cross-sectoral department in BaFin – BaFin works since its foundation in May 2002 very economic and synergy-based. In this international department, which deals with all aspects in the three fields of banking-, insurance companies- and market supervision, five other colleagues and myself are responsible for the technical co-operation and consulting of our entity. We welcome interested colleagues and experts in our authority, we are in an intensive correspondence via e-mailing around the whole world and from time to time we organize seminars and workshops abroad. One key moment in my life happened in autumn 2004: After making a pres-

Interview entation to Italian colleagues in former Frankfurts’ branch of Banca d’Italia about the German financial services supervision, these Italian colleagues addressed me afterwards to join as one of the speakers to a planned conference for Islamic banking in European countries at the University of Naples. Since that time, the conference happened in April 2005, I am in a deep touch with the question of Islamic finance. Besides correspondence and meetings, my colleague Mr. Elsen and myself published to several different aspects in this very field, mostly in German language. What do you feel are the key challenges that need to be overcome in Islamic finance in Germany? In general, there is a great marketpotential in Germany for Muslim-based services. According to an approximation, there are 3.5 million Muslims living in Germany. Around one million of them possess a German passport and ca. 15.000 are of German origin. They belong to different religious groups: most of them, that means 2 ½ million are Sunnits, ½ million are Alevits and ¼ million are Irani Imamits or Turkish Shiites. This makes Islam the second largest religion in Germany, right after the Christian one. Subsequent to this separation according to religious affiliation a classification in matters of national provenance can be made. Of 3.5 million Muslims ca. 1.8 million are Turkish (2.8 million including nationalized persons), other large groups come from different countries of the Balkan region and Northern Africa. I don’t see any problems in the wanted minimum requirement for own funds (= € 5 Mio.) according German Banking Act to start a bank successfully in my country. As well, I am very sure about a good clarification of the aspects to a fit and proper management and a trustful ownership structure of an Islamic bank. Still now not finally clarified is the aspect of the role of the Shariah board in such a bank, because according German Banking Act only the management has to carry out the business, no other third ones. In the same context, there is to underline, that a deposit protection must be accepted in the relations to the outside world. Perhaps the „British way”, that means an abandonment agreed between the client and the bank might be possible at the end of the day. How would you say Germany position itself in terms of implementing changes to accommodate Shariah compli-

ant financing in the law? In the long run, I can imagine that a credit institution must fulfil main requirements like enough own funds and liquidity all around the clock. Still now, it is not clarified definitively, if the nonuse of interest taking will be possible. My opion is, that it can work successfully, when there will be clear defined contracts, which show the client (and the supervisors) the alternative servicing on a Muslim basis. For myself, Muslim-based financial services are an attractive option to cover the financial markets against a next economic crises, because financial betting is strictly prohibited according Shariah, as well all unclear businesses are „no-goes”. The clear background is, that a good Muslim doesn’t cheat another one! The publication (and confirmation) to this by the Papal newspaper l’Osservatore Romano of Vatican is an interesting signal in that context. On the other hand I do not see during this decade the „Malaysian way” in Germany, where people have two different banking regulations: the one for „classic” banks, the other one for Muslim banks. In October 2009 BaFin hosted its very own Islamic finance conference would you say this was a starting point for a new regulatory framework for Islamic banking? This very first conference indeed had had a main focus to Islamic banking. I am proud to say, that just our section in BaFin has still the leadership to organize and to realize the 2nd conference for Islamic finance in Frankfurt upon Main. This will happen at 10th May 2012 at “Frankfurter Hof”, a traditional address and in this city from the best ones. At this conference, there will be the main topics to Islamic funds and sukuks; a 3rd conference will refer in the mid run to aspects of Islamic insurance services, that mean Takaful and Retakaful. Now, coming back to the question of a regulatory influence from this conference, there was no “run” from the banking industry to our authority to amend the German Banking Act for this purpose. What do you think the future holds for Islamic banking in Germany? Nobody can say, what will be in the mid of this century – looking to Germany, I cannot imagine substantial regulatory amendments during this decade. Please see above: I think compromises (like “British ways” in the field of deposit taking and how to deal with the question of interests) shall be possible from case to case. Apart from this, I

see a good market chance in the field of mortgage banking. The reason is the possibility of a silent partnership, which a bank can offer as a special service for their clients in that context. How do you think tax laws be changed to pave the way for Islamic finance and banking? As mentioned above: the possibility, now successfully researched by Ernst & Young Company in Germany, to use the juridical figure of a silent partnership will effectively help to avoid double taxation legally. The transfer mortgage tax in Germany is different from Federal state to Federal state, which has a floor and a ceeling between 3 ½ % to 5 %. Just this different taxation levels can generate a difference of € 15.000,-- by buying a real estate of € 1 Mio.. By using this new idea, the client will be registrated in the German cadastre role as new owner, but the bank is documented in the next chapter as silent partner with the right to use this real estate. This is the guarantee for the bank. When the client paid totally, the bank transfers at the end this juridical title to the client. This interesting way makes it for credit institutions from now on possible to offer halal mortgage banking services with attractive conditions. Where can you see the Islamic finance and banking industry in 2020? As we all know, Islamic finance and banking industry got since 1982 in the U.K. very common; there is now something like the 30th annual jubilee of existence. Just since five years, when the administration of President Sarkozy started, the question of Islamic finance got a very important topic in France. Still now deeply linked with North African Maghreb countries, there is as well a great market potential in this country for Muslim-based services. Not to forget Luxembourg, which opened its regional financial market with important regulatory amendments during the running decade. Looking to EC Prospectus Directive, the use of the so-called European Passport makes it possible, to distribute these services in the countries of this community. These named four countries are in the “heard” of Europe from its area and its importance. I can imagine, that this nucleus will develop in the long run to the third economic centre on the globe besides the Gulf region and Malaysia/ Singapore for Muslim-based financial services in the world.

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Market Review

ISLAMIC MICROFINANCE IN THE UK Source: GlobalIslamicFinanceMagazine.com

The Islamic Development Bank (IDB) is ex��ploring social and financial inclusion opportunities in the UK including the provision of community-based microfinance, SMEs (small-and-medium-sized enterprises) financing and technical assistance programs. An IDB delegation, led by its President Dr. Ahmed Mohammed Ali, participated in a roundtable with financial institutions, law firms, corporates and community organizations and leaders. Dr. Ali said that in addition to the direct assistance to microfinance institutions, initial discussions have taken place with the UK’s Department for International Development (DFID), World Bank and CGAP to start some pilot projects in various common member countries and eventually develop a global Islamic microfinance facility. In the UK, there are several initiatives aimed at helping small business start-ups and young entrepreneurs and to promote financial inclusion. These include Community Development Financing Institutions (CDFI), the Enterprise Capital Fund, and regional ones such as Bolton Business Ventures. 40 Global Islamic Finance

Lord Young, the former Conservative cabinet minister, announced the launch of a GBP85 million initiative to help young people in the above respect. The reality is that the UK is facing a multi-billion pound funding gap for small businesses. One microfinance initiative that is seeking to cooperate with the IDB is GLEOne London, whose CEO Nicholas Nicolaou, revealed that the entity is working on a program to assist Muslim immigrants starting up small businesses and becoming entrepreneurs. In fact, City law firm Norton Rose; Gatehouse Bank, one of the five UK-authorized Islamic banks; and international auditing firm and consultancy KPMG have been cooperating with GLEOne London to develop an Islamic microfinance product based on the Mudaraba (trust funding) concept. According to Farmida Bi, Partner at Norton Rose, the product is ready to roll out and addresses the various tax and legal issues especially under the Consumer Credit Act, which protects the rights of customers. Dr. Ali reiterated IDB’s support for various microfinance initiatives. He stressed that

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the Islamic banking industry registered a year-on-year growth of 35 percent in 2010 to 2011. Within OIC countries for instance, Islamic financial institutions are becoming major economic players in an increasing number of these countries. In Indonesia, for instance, a recent Central Bank of Indonesia report has indicated that the industry is growing very fast at a rate of 35 to 40 percent per annum and is expected to capture up to 20 percent market share of the total banking industry in the next few years. “If this trend continues the Islamic financial industry will become a major industry with an important role to play in global finance. London being the gateway for Islamic banking in Europe, needs to be prepared for this tremendous growth of this industry,” he said.Dr. Ali also held talks with the Lord Mayor of the City of London, Alderman Ian Luder; the Sheriff of the City of London, Alderman Alan Yarrow; the British Consul General in Jeddah, Mohamed Shokat, and Richard Thomas, CEO, Gatehouse Bank, at Mansion House, the official residence of the

Market Review and the IDB and the GCC countries, in particular, Saudi Arabia. The City of London, as a premier international financial center, has much to offer not only in innovation, but also in education and training and also in the growing phenomenon of Islamic finance. Dr Ali emphasized that the visit was a testament to the IDB’s partnership with the UK and specially with the City of London. “We have worked together to further some areas of our common interest. This visit also provides IDB with the opportunity to support the development of Muslim communities in the UK,” he said. IDB’s Medium Term Note Program amounting to $6.5 billion for sukuk issuance is registered with the Financial Services Authority in UK and is listed on the London Stock Exchange. Under this program, IDB has made several issuances in US dollars, as well as pound sterling denominated private sukuk issuances have been made. As far as the money market placements are concerned, the IDB has over the years increased its exposure to the UK’s financial institutions and IDB stands ready to do more in this regard when appropriate opportunities are identified. The IDB is working with such recognized institutions as the Prince of Wales’ Prince’s Charities and has contributed just under $1 million to help

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crisis, the issue of embedded inclusiveness especially of the financial services industry is increasingly important. Not surprisingly, the IDB President appealed to the financial institutions to help in this respect. “Achieving sound and sustainable socio-economic development is not simply a financing issue. It is a much broader endeavour,” said Dr. Ali, adding: “It is not within the bandwidth capacity of a single institution or even a single country. It requires strong commitment to reform the socio-economic system and its institutions. All stakeholders, including the government, private sector, civil society and donor community, have to play an active role and align their priorities and activities to achieve this common goal. Due to the strong banking traditions in the UK, it can contribute significantly to this endeavour.” This, he added, is a once in a lifetime opportunity and called upon all the Institutions to pull together and work towards building “an equitable, just and stable financial system which is capable of providing sustainable growth with employment creation for our own future. IDB would be happy to cooperate with initiatives in this regard.” A key delivery vehicle for inclusiveness which the IDB has been promoting is through SME financing and microfinance programs aimed at generating employment, especially youth employment, and economic growth. Due to the recent changes in the MENA region as a result of the Arab Spring, there has been a demand for funding of SMEs. In this context, the Bank has launched the IDB Youth Employment Support (YES) Program for which the IDB’s Board of Executive Directors approved $250 million to help empower Financial Institutions, Employers, Education and Vocational training organizations in the Arab Region to reduce youth unemployment.

Lord Mayor. The IDB president’s visit was at the invitation of the Lord Mayor who earlier this year visited the bank’s headquarters in Jeddah. Dr. Ali also met Andrew Mitchell, UK Secretary of State for International Development, to review progress on the implementation of the Memorandum of Understanding (MoU) signed by the two parties in Jeddah in March whereby the UK and the IDB agreed to cooperate in co-financing projects in IDB member countries aimed at generating youth employment and reducing poverty. Alderman Luder stressed the close and historical relations between the City of London

young people in the inner cities to start up projects or small businesses. The IDB has also been providing assistance for economic and social empowerment to UK citizens as part of IDB’s special assistance program for cooperation with Muslim communities in non-member countries. To date IDB has approved a total of 19 projects for the UK and further projects are being planned. These projects are mainly in the field of education, social welfare and research. In the wake of the global financial crisis, economic recession and the impact of the eurozone debt

Dr Ali revealed that the targeted countries include Tunisia, Egypt and Morocco and that the first disbursements have started with Tunisia. However, he pointed out that it is up to the receiving countries to come up with project proposals to access the funding. Furthermore, the Islamic Solidarity Fund for Development has allocated $500 million for Islamic microfinance and a similar amount for vocational literacy programs (VOLIP). The IDB Islamic Microfinance Development Program was established to strengthen the Islamic microfinance institutions and develop the overall enabling environment for them. According to the IDB, the French Development Agency (AFD) and the Consultative Group to Assist the Poor (CGAP) are also collaborating with the IDB in the development of Islamic microfinance.

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Market Review

NEW ISLAMIC BANKING OPPORTUNITIES IN MORROCCO Source: GlobalIslamicFinanceMagazine.com

Morocco’s new banking laws are expected to facilitate the use of Islamic finance in the country and encourage a wave of new investment and business. A relative latecomer to the field, Morocco’s banking laws do not currently allow Islamic banking institutions, though in 2007 the government permitted conventional banks to offer Islamic financial products. However, the new regulations that are to be approved by parliament will change the course of Islamic banking in the country. Moroccan authorities are expected to soon allow local banks to convert to Islamic financial institutions and invite foreign Islamic banks to set up branches in the country. Experts believe this is in a bid to speed up Morocco’s economic development and establish a regional finance hub in Casablanca. It was reported that Halsaâ Benzha, founder of the online Islamic finance journal RIBH, for comments on the proposed new banking laws in Morocco. Benzha is founding the first sharia-compliant capital investment company in Morocco, and is unique poised to discuss the changes there. He emphasized that the proposed new banking laws in Morocco devote an entire chapter to the development of the Islamic finance sector. They will allow for the creation of retail and investment banking sectors that are completely Shariah-compliant, and existing banks will have the opportunity to completely or partially convert to Islamic banking. 42 Global Islamic Finance

emergence of a new generation of financial players, and this is what motivated my initiative to create the first company for Islamic capital investment in Morocco. I am in the process of formulating the company and raising seed capital of roughly $300,000.

The law also provides for the creation of a National Shariah Board to oversee the compliance of Islamic banks’ operations. Even more encouraging than the provisions of the laws are the opportunities for business themselves. Benzha said, “Several foreign institutions have expressed an interest in setting up in Morocco, in association with Moroccan partners, including Qatar International Islamic Bank (QIIB) and Faisal Islamic Bank.” He continued, “The reformation of the law relating to private equity firms will harmonize and unify the regulatory framework for venture and development capital activities. This reform will accord greater flexibility to investment funds regarding the types of companies they invest in, while strengthening the control of the Securities Ethics Board (Conseil Deontologique des Valeurs Mobilieres, or CDVM), the regulatory authority of the capital market.” Benzha went on to explain what this had to do with his company. “All of these provisions allow for the

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I also released a call for expressions of interest, from Moroccan and foreign professionals (fund managers and consultants) with solid experience in investment banking and management of investment funds, interested in joining the founding team of the investment company.” Lastly, Benzha described the investment company itself. He said “it will aim to establish and manage funds for collective investment in capital (Fonds de Placement Collectif en Capital, FPCC), making a public offering and involvement in the following areas: property development and the construction sector; tourism and the hospitality industry; industry; energy; distribution; and transport and logistics.” He concluded, “The overall objective is to finance job-creation projects contributing to the development of the country, giving financing that is Shariah-compliant.”Given the inchoate state of Morocco’s Islamic finance sector, Benzha is situated for success, along with his country.

Islamic Banking

THOUGHT LEADERSHIP PIECE ON EGYPT

SWFS AND EGYPT: A FRESH LOOK AT INFRASTRUCTURE FUNDING AND INVESTMENTS Author: Asim Ali, is a PhD Candidate in the Department of Political Science, University of Western Ontario Shatha Al-Aswad, Assistant Vice President for Bank & Sovereign Credit at State Street Corporation.

Abstract: The Egyptian government is scrambling for economic solutions in the face of a looming balance of payments crisis and possible sovereign default crisis. Egypt must choose between two seemingly irreconcilable options: the obvious or the innovative. By following the standard recipe of International Financial Institutions (IFIs) to restore financial health (i.e. in the context of a balance of payment crisis) and accepting restrictive loan conditions and public spending austerity measures, Egypt would be following a traditional route of financial assistance. However, Egypt may continue to experience political unrest, which will stifle efforts to establish political stability. Keywords: SWF, Investment, Islamic Finance, Egypt

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Islamic Banking

Introduction The popular uprisings against autocratic governance, which began in Tunisia, became a revolutionary spark for the democratic aspirations of people in the Middle East, including Egypt. Once the political protests erupted over demands for political rights and equitable socio-economic opportunities throughout Egypt, Hosni Mubarak’s 30-year rule came to an end. Since then, political and institutional paralysis has led to significant economic disruptions, which continue to cloud the economic transition. The dwindling Egyptian pound, falling tax receipts, and increasing public spending have depleted foreign exchange reserves at $2 billion per month since February 2011.

Asim Ali, Asim Ali is a Ph.D. candidate in the Department of Political Science at the University of Western Ontario (Canada), working on his doctoral dissertation on the political economy of Sovereign Wealth Funds. Asim holds two graduate degrees: He completed a Master’s degree in International Commerce and Policy from the School of Public Policy at George Mason University (USA), where he also earned an undergraduate degree in International Studies. He received another M.A. degree in Political Science from the University of Waterloo (Canada). Asim has held teaching appointments as a Lecturer in the Departments of Political Science and History, respectively, at the University of Western Ontario. He has also presented at numerous academic conferences across North America on the subject of Sovereign Wealth Funds. Asim’s research experiences include holding a Balsillie Fellowship at the Centre for International Governance and Innovation (CIGI) in Waterloo, Ontario. He has also worked at the Council on Foreign Relations (Washington Offices), Middle East Forum; the Centre for Strategic and International Studies (CSIS), South Asia Program; and the Pakistan Embassy (Washington DC). He has extensive experience in the policy arena, after having worked on nuclear nonproliferation in South Asia; energy security in the Persian Gulf; trade and investment issues in the Middle East and Asia; and US foreign economic policy towards emerging powers. 44 Global Islamic Finance

The Egyptian government has been relying on its foreign reserves to fill the financing gap; its foreign reserves, which stood in a comfortable range of US$35 billion at the start of political upheaval in January 2011, have dropped to US $16.4 billion.

that innovative solutions that include direct investment on the part of Persian Gulf based states in the Egyptian economy, can offer plausible opportunities for both development and investment return. Specifically, an innovative path can facilitate creative approaches to address monetary, unemployment, inflation, and infrastructure issues, while relieving some of the socioeconomic pressures, which are a source of political stability. In fact, the Persian Gulf based SWFs, with US$160 billion in SWF assets (or 4% of global SWFs assets under management)are well positioned to channel foreign investment into the Egyptian economy, especially in the areas of infrastructure, tourism, and banking. Mahathir bin Mohamad, the Malaysian prime minister who famously declined IMF loans in the face of financial woes, has endorsed this notion of GCC capital to support Egypt and other “Arab Spring” countries.

Now, the Egyptian government is scrambling for economic solutions in the face of a looming balance of payments crisis and possible sovereign default crisis. Egypt must choose between two seemingly irreconcilable options: the obvious or the innovative.

For Egypt, which is undergoing a politicaleconomic transformation, regional investments on the part of Persian Gulf states would provide a reliable source of long-term capital that can contribute to national development and political stability.

By following the standard recipe of International Financial Institutions (IFIs) to restore financial health (i.e. in the context of a balance of payment crisis) and accepting restrictive loan conditions and public spending austerity measures, Egypt would be following a traditional route of financial assistance. However, Egypt may continue to experience political unrest, which will stifle efforts to establish political stability.

Likewise, as long-term investors, Persian Gulf based SWFs are well positioned to become equity stakeholders in dynamic and growthoriented sectors of the Egyptian economy, particularly in the areas of infrastructure development, banking, and tourism, and consequently contribute in the restructuring of those sectors.

Here we offer that an innovative solution, built upon direct investment in Egypt by GCC sovereign wealth funds, might afford benefits not only to Egypt but also to all the oil and gas exporting countries in the region, especially states in the Persian Gulf region with sovereign wealth funds. Certainly, one would be apprehensive to deploy capital to an investment destination whose future is opaque at best. Nonetheless, we suggest

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Here, China provides a potential case from which to draw insights. While avoiding European government debt, China has been investing directly or through the China Investment Corporation in the debt-stricken Euro zone. In its drive to continuously diversify its assets for optimal yields, China has been investing in Europe – in a range of sectors (engineering, high-tech, utilities, etc.) and infrastructural projects.

Islamic Banking

For example, China recently secured a 25% stake in the electricity sector of financially distressed Portugal. Likewise, China took over a German engineering firm, Putzmeister, for an undisclosed amount. Similarly, China is now a shareholder in the British utility Thames Water. As well, it has bought stakes in the debt-laden Italian luxury yacht maker Ferretti Group. Following the Chinese approach to investment in Europe, the Persian Gulf states could potentially leverage their SWFs to invest in the Egyptian economy in the areas of infrastructure development, tourism, and a nascent Islamic finance sector. Shatha Al-Aswad, Shatha Al-Aswad joined State Street Corporation’s Enterprise Risk Management from State Street Global Markets where she covered FX Risk Management. In her role as a credit analyst in the Financial Institutions’ Group, she covers Emerging Markets risk with an emphasis on the MENA region. She also supports State Street capital markets and sub custody activities. Prior to joining State Street, Shatha was a credit analyst at Arab Bank Plc, New York where she covered the defense and oil industries. Prior to Arab Bank Plc, she was a financial reporting analyst at the Gillette Company covering the Australasian Markets. Shatha graduated from Northeastern University with a BA in Business Administration. She is currently a member of Arab Bankers Association of North America (‘ABANA’) and a steering committee member of State Street Muslim Professional Network.

Initial Attempts at Financial Assistance: Promises, Pledges, and Proffers … To lend their support to countries – especially Tunisia and Egypt, initially – in the crosscurrents of political and economic convulsions the G8 launched, in 2011, the “Deauville Partnership,” at a meeting in Marseille, France. The G8 pledged US$20 billion to countries in the throes of political unrest and assured assistance through financial aid (in the form of development loans, investments, debt relief, and financial guarantees) from multilateral financial institutions, including the IMF. In addition, Kuwait, Qatar, Saudi Arabia, Turkey, and United Arab Emirates joined the Partnership. With the exception of Turkey, all the regional partners have sovereign wealth funds. In spite of well-intentioned promises made at the international level, however, overall financial contributions to Egypt remain modest. The continuous hemorrhaging of foreign reserves, in the face of capital outflows, declining remittances and tourism revenue, has led the interim government to consult the IMF. However, the Supreme Council of the Armed Forces (SCAF), a temporary executive branch comprised of 19 military generals, vetoed plans for a US$3 billion dollar loan from the International Monetary Fund (IMF) in mid-2011. The SCAF-led interim (care-taker) government argued that it was not empowered to negotiate foreign loans and saddle an incom-

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ing elected government with foreign debt. As well, the SCAF argued that neighboring states in the Persian Gulf had offered financial assistance comprised of loans, grants and new investments. Saudi Arabia, for example, pledged US$4 billion in financial assistance, the UAE offered US$3 billion, and Qatar assured a US$500 million grant and US$10 billion commitment to invest in the Egyptian economy. However, international and regional donor pledges have not translated into actual tangible assistance, and as of late 2011, only US$1 billion had been disbursed. This has left Egypt little alternative but to approach the IMF for a US $3.2 billion credit facility. Certainly, IMF support would provide confidence to foreign investors, including SWF. It would also unlock financing sources from both within the region, especially the Persian Gulf states, and internationally, provided it does not come with standard “conditionalities” appended to IMF loan programs. Thus, as a financing option, structuring such a facility requires caution as traditional conditions would be politically unpalatable and economically destructive in the current socio-political environment in Egypt. Persian Gulf based SWFs: Opportunity for Capital building and capital diversification through ‘Neighborly Investment’ The Persian Gulf based SWFs, along with Asian SWF, made significant financial contributions to Western institutions during the crisis in 2007-2008, even as they incurred heavy losses on their investments. Thereafter they have retreated from western financial markets and shifted their portfolio allocations to emerging markets. The sponsors of Gulf based SWFs also became more targeted in their investments, especially as a result of ongoing political turmoil in the Mid-East region. For instance, to assuage restive sections of their population and maintain political stability, the investment focus shifted to domestic spending, infrastructure development and job creation. Still, as the Persian Gulf based SWFs continue to evaluate their broader investment and diversification strat2011 October - November Global Islamic Finance 45

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Islamic Banking

egies, Egypt provides a potential opportunity for Persian Gulf SWFs in three economic areas: infrastructure investment, tourism, and Islamic finance. Infrastructure Investment Egypt provides a lucrative market for infrastructure investment. Qatar, for example, has continued to invest in Europe, where sovereign debt crises and economic malaise keep foreign investors away. Qatar, through its SWF, struck a financing deal with European Goldfields, the London-listed company behind large gold-mining projects in Greece. It will lend US$600 million to finance the company’s Greek gold mines, in return for a possible 30% stake. Qatar also made acquisitions in a power and utility company in Portugal and Spain, respectively. The Qataris also took a direct role in the most troubled European debtor country – Greece – when it bought 17% of a new entity created by the merger of Greece’s Alpha Bank and Euro bank. Earlier it also bought the Turkish arm of Dexia, the struggling French-Belgian lender. In June 2011, Qatar pledged US$10 billion to invest in several projects to support Egypt’s economy, including a stake in US$9 billion port project near the Suez Canal. Pledged assistance to Egypt demonstrates the strategic importance of the country for its Persian Gulf neighbors. Like Qatar, Saudi Arabia, Kuwait, and UAE have made it clear that they foresee changes to deploying their SWF’s resources into infrastructure projects and away from concentrating on financial markets. These declared interests can drive benefits to both Egyptians and GCC members. Persian Gulf states investment in Egyptian ports (infrastructure investment), for instance, can help control the quality of and time required for their commodities to be serviced. Turning Suez ports into the one of the busiest and most efficient shipping centers in the world can only help the oil and gas exporting countries to manage their exporting routes efficiently. The case of Singapore is illustrative. Depraved of natural resources, Singapore 46 Global Islamic Finance

became an entrepôt and is now one of the world’s busiest transshipment hubs, as well as an important regional financial center. This has come with the realization that a free trade economy should be backed by a strong legal structure. The Port of Singapore generates on average ~USD$175 billion while the Suez Canal generates ~USD$2 billion. Tourism Tourism – another profit sector of the Egyptian economy – is the second largest source of foreign currency for Egypt after expatriate remittances. Tourism accounted for 6% of GDP and contributed US$13 billion to the national exchequer, in 2010, according to Egyptian Ministry of Finance statistics. Tourism attracts around 13 million visitors to Egypt annually. Each tourist dollar, according to the Egyptian government statistics, generates US$4 or US$5 in income, which suggests a strong impact on incomes and the standards of living of workers in the tourism sectors and other service-oriented sectors of the economy. However, the tourism sector has been adversely affected by the ongoing political unrest in the country. For example, before the uprising began, 16 million tourists were estimated to enter Egypt. Days after the uprising started one million tourists left Egypt. Tourism in Egypt is a lucrative sector for growth and prosperity. As we have seen in Dubai, it is an industry that can bring prosperity to many other industries and sectors in the economy. Still, the tourism sector in Egypt offers a promising venue for the Gulf based SWF investments, especially in the area property ownership around beach resorts areas like the Red Sea region, including Sharm-el-Sheikh, and opportunities in hotel management. Islamic finance Lastly, Islamic finance is another area with substantial scope for Gulf based financial firms to maximize their investments. Here, Bahrain, the Islamic finance hub in the region, besides Saudi Arabia, could leverage its institutional expertise to assist Egypt with developing a hybrid banking system – Islamic and conventional.

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As well, it would “socialise” the newly elected Islamist government in Egypt to the moderating ways of Bahraini and Saudi approaches to economic governance, especially in the areas of finance and banking industries. In the North Africa region, Egypt has the highest Shariah -compliant assets which account for around 4%of its US$215 billion banking assets. Meanwhile, the Islamic insurance (Takaful) sector makes up 5 percent of Egypt’s US$1.45 billion insurance market and is expected to grow dramatically. For example, some Saudi investors are positioning themselves to establish Shariah -compliant development bank targeted to small and medium size businesses. Currently there are only three Islamic banks -the National Bank for Development, the Faisal Islamic Bank of Egypt and Egyptian Saudi Finance -operating in Egypt. The potential for both Gulf, and Malaysian Islamic banks therefore is attractive. Conclusion For the GCC members, “neighborly investment” by the Persian Gulf states in Egypt would be a prudent part of their diversification and development objectives. By focusing capital on establishing tangible stakes in ailing economies they would contribute to political stability by injecting necessary investment and financial capital into these economies. To this end, the GCC and Egypt can mutually benefit by collaborating together. For Egypt, instead of feeding into a non-ending debt cycle with stringent external requirements, its cabinet might look to its own economy and enhance its core competencies in the areas of infrastructure development, tourism, and Islamic finance. The challenges are real and many. However, if they are addressed effectively, the innovative solutions we propose can open for Egypt a path of sustainable economic development, while offering attractive investment opportunities to its Gulf neighbors.

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World Islamic Finance Review

THE RISE OF ISLAMIC FINANCE

IN JAPAN Author: Tasnim Nazeer, Global Islamic Finance Editorial Team, United Kingdom

48 Global Islamic Finance

October - November 2012

World Islamic Finance Review

Abstract: Islamic Finance in Japan is growing at a steadily despite the global financial meltdown that had previously occurred. Japan had made some significant developments in facilitating the launch of Islamic finance in the country in order to cater for the demand for Shariah compliant finance products and services. Japan has made significant regulatory reforms in order to accommodate the Shariah compliant finance industry and has recently facilitated the implementation of Sukuk Islamic bonds within the country. Many businesses are viewing the opportunity for Shariah compliant financing as a viable option in the lucrative country of Japan. This article is a must read for those who want to know more about the growing Islamic financial and banking industry that is currently being explored and implemented in Japan. Keywords: Japan, Islamic Finance, Islamic Banking, Sukuk, Takaful, Investment, Shariah Compliancy

2011 October - November Global Islamic Finance 49

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World Islamic Finance Review

The Inception of Islamic Finance in Japan The promotion and implementation of Islamic finance in Japan has become more prominent in recent years. Despite the global economic downturn and the fact that Japan does not have a predominant demand as there are only 10,000 Muslims in the country are many factors why Japan has been slow to implement Islamic finance. However due to the rising Islamic finance industry which is becoming a successful financing method around the world Japan is now realising the benefits that this industry could bring to them.

surance companies may conduct. A further set of tax reforms have reduced Japanese taxation risks for foreign fund managers of certain investment funds on their income and capital gains from the disposition of funds. This was done in order to facilitate many types of Islamic financial transactions and aid in the implementation of Shariah compliant financing to pave the way for the sector. Although the effects of the regulatory changes which were subject to certain rules were limited as it did not fully give access to a fully fledged Shariah compliant financing system

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In 2009 Japan made a significant regulatory reform in order to facilitate Islamic finance in the country. Amendments were made to the Ordinance for Enforcement of the Banking Act/Insurance Business Act, under which certain types of Islamic finance transactions were for the first time added to the scope of business that the subsidiaries of banks/inFigure 1: System of the issuance of J-Sukuk Example of Ijara Scheme of J Sukuk The issuer entrusts its owned real estate to the trustee of the special purpose trust. A The investors pay the issue price of JSukuk to the issuer. B The issuer issues J-Sukuk to the investors. Source FSA

Figure 2: From the issuance until the redemption of J-Sukuk From the issuance until the redemption of JSukuk C The issuer leases the entrusted real estate from the trustee. D The issuer periodically pays rental fees to the trustee. E The trustee periodically pays distribution amounts funded by the rental fees to the investors.

Figure 3: At the time of the redemption (maturity) of J-Sukuk The issuer purchases back the entrusted real estate from the trustee. F The issuer pays the purchase price of the real estate to the trustee. G The trustee pays the redemption amounts funded by the purchase price of the real estate to the investors Source FSA

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which was approved by the Japanese Cabinet last June 2011. The facilitation of Islamic finance draws a parallel in Japan’s new growth strategy. A key role of the financial strategy, according to Japan’s Financial Services Agency (FSA), the banking regulator, “is to support the real economy. Amidst the low birth rate, the increasingly aging society, and the economy’s low growth rate, the financial sector is expected to provide more solid support to the real economy and enterprises by providing suitable invest-

Due to the rising Islamic finance industry which is becoming a successful financing method around the world Japan is now realising the benefits that this industry could bring to them

it did provide the first step in initiating Islamic finance within the country. By 2010 banks in Japan were allowed to use Islamic financial instruments such as Mudarabah and Ijarah as it complied with their laws for under the Financial Instruments and Exchange Act (FIEA). Historically, it had been quite difficult to structure Shariah-compliant financing structures in Japan due to a variety of factors, including the tax treatment of the distribution of profits to overseas Islamic investors. However in 2011 Japan made arrangements to amend the Japanese Asset Securitisation Law in addition to other tax reforms which have made investing in Japan in a Shariah compliant manner a more attractive option. In addition it has helped to level the playing field between conventional financing and Islamic financing for such investments in Japan. These amendments came into effect on 24 November 2011. Paving the Way for Islamic Finance through Regulatory Change The regulatory changes that were incepted in 2011 for the accommodation of Islamic finance in Japan was the starting point after a long time lapse in implementing Islamic finance into the country. Japan is considered to be one of the world’s top three economies which has included tax reforms and regulatory measures for Islamic finance, as part of the country’s financial strategy, which is one of seven key components of the government’s “new growth strategy — blueprint for revitalizing Japan,”

October - November 2012

ment opportunities to the household sector and diverse fundraising methods to enterprises.” Islamic finance in Japan is said to have a positive influence on the Japanese economy as the ethical principles of the prohibition of interest, gambling and other Shariah compliant financing principles will ensure that the country is productive in building up the economy. The main specific request items include tax reforms necessary for Islamic finance and for securities lending. The FSA under the new growth strategy will also promote the “development of the environment for Islamic bond issuance in Japan.” Regarding tax principles for non-residents and foreign corporations, the FSA is studying specific actions with tax authorities, in the direction of revisions from the “entire income principle” to the “attributable income principle.” Japanese financial institutions active in the Islamic finance such as Nomura, Daiwa, Japan Bank for International Cooperation, Mitsui, Mitsubishi, Sumitomo and others, have also encouraged the Financial Services Agency in making dividends of quasibond beneficial interests (“QBIs”) of special purpose trusts received by foreign investors tax-exempt. “Quasi-bond beneficial interests,” according to one Japanese banker, means a type of beneficial interest to receive a certain predetermined amount. In a legal context, they

World Islamic Finance Review correspond to an equity in which Islamic investors can invest. Islamic finance products in Japan arepaving the way for Islamic financial transactions and changing the Japanese legal system for the better. The Innovative Issuances of Sukuk in Japan Many Japanese companies which are heavily involved in Islamic finance have been waiting for Japanese Sukuk to emerge and now in 2012 they can see the implementation of the J-Sukuk as it has been dubbed for the emergence of Japanese Sukuk. Sukuk Islamic bonds is a Shariah compliant instrument which does not deal with interest based bonds as interest is prohibited. The J Sukuk is structured not as a bond but more like a security and the funds come from the underlying asset as it is part of the Shariah compliant system to always have an underlying asset. A J-Sukuk is a financial instrument which enables an issuer to raise capital from not only conventional investors but also from Islamic investors so that they have the choice to use Islamic investors only to make it Shariah compliant. It is legally not a bond itself, but is treated as if it were a bond for tax purposes so to accommodate the Shariah compliant underlying principles .

As many neighbour countries near Japan have already tapped into Sukuk and been implementing changes in the law, “Japan also has understood the necessity of enhancing the attractiveness as an investment destination,” a Japanese FSA official said. Japanese regulations do not forbid the issuance of Islamic bonds but these funding instruments are often not commercially viable without tax breaks on dividends received. Future of Islamic Finance in Japan Japan is making headway in trying to implement the sectors of Islamic finance successfully into the country after realising its positive benefits that Shariah compliant financing will have on the economy. In addition Islamic Sukuk bonds such as the J Sukuk which can be used alongside conventional bonds can also attract investors worldwide. As Japan is a predominant country and financial abode there will be many investors who would want to make a Sukuk issuance under the J-Sukuk scheme in order to attract the market and gain more profits. Japan’s Financial Services Authority (FSA) have recognised the potential of the Islamic finance industry as the success of the growing sector can be seen around the world.

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Japanese financial institutions active in the Islamic finance such as Nomura, Daiwa, Japan Bank for International Cooperation, Mitsui, Mitsubishi, Sumitomo and others

A J-Sukuk is structured using a quasi-bond beneficial interest of a specified purpose trust prescribed in the Act on Securitization of Assets which was amended to accommodate Islamic Sukuk. A quasi-bond beneficial interest is an interest receiving pre-fixed amounts like interest on a bond. It is legally not a bond, but is treated as if it were a bond for tax purposes by the 2011 tax reform. The Japanese brokerage Nomura Holdings sold $100 million of Islamic leasing bonds in Malaysia in July and Sumitomo Corp is said to be arranging the first Islamic funding deal in Japan. Sukuk in Japan hopes to bring more interest for Islamic investors and further drive Sukuk issuances into the country. However there are tax exemptions up to 2013 which could see the measures being reviewed to facilitate the implementation of Sukuk in the country.

ever the success of the J Sukuk will have to be monitored by 2014 to see its overall success and growth development. Many investors may find that opportunities are increased with Japan joining the list of many countries who are also tapping into the Sukuk market. The UAE and Malaysia are predominant lucrative hubs for Islamic finance and there is no reason why Japan cannot replicate the success of Islamic finance if it would give the industry a chance to be implemented. There are many benefits which could derive for implementing Islamic finance into Japan such as a better, stable economy, more Sukuk issuances from foreign and global investors wishing to tap into the Shariah compliant market and more job openings. The Islamic finance industry has not only provided an alternative to conventional financing but it has also given people the opportunity to make non interest transactions and help them to pave the way for a better financial way of life. The economic downturn could be a prime example of the rise of the Islamic finance industry and the benefits could be further highlighted by the affects that the economic downturn had on conventional banks. Islamic finance in Japan can help the country to grow economically and provide more opportunities to be utilised worldwide.

References and Further Reading •

Taxation of J Sukuk Q & A (2012) Financial Services Agency, Retrieved

Many countries are quickly tapping into the lucrative Islamic finance industry which holds scope to outbeat $2 trillion dollars by the end of 2012. There is significant potential for the rise of Islamic finance especially in the areas of Sukuk as Japan has some big firms that are backing the support of the Islamic finance industry such as Nomura Holdings which already sold over $100 million worth of Sukuk to the Islamic financial hub of Malaysia. Japan is a flourishing country with scope for more Islamic financial products, services and Sukuk issuances if the country allows the proper jurisdiction to implement fully fledged Shariah compliant services and products into the country. The J Sukuk is one step closer in implementing the development of Islamic finance how-

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from:

http://www.fsa.go.jp/en/

news/2012/20120416-1/01.pdf •

S. Ciato and C Igarashi (2009) Islamic Finance in Japan, Retrieved from:

http://www.jurists.co.jp/

en/publication/tractate/docs/ IslamicFinanceinJapan_100408.pdf •

M.Parker

(2010)Japan

adopts

new strategy, Arab News, retrieved from:

http://arabnews.com/econ-

omy/islamicfinance/article260050. ece?service=print •

Japan eyes sukuk tax breaks to draw Islamic investors (2011) Reuters

from:

http://www.reuters.com/

article/2011/01/14/islamic-financialjapan-idUSL3E7CD0OZ20110114 2011 October - November Global Islamic Finance 51

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Islamic Finance

ISLAMIC FINANCE AND GLOBAL FINANCIAL CRISES: HOW TO KEEP FINANCE ON TRACK? Author: Ayman Zerban, Eslam H. Elkady, and Rafik F. Omar Abstract: The third quarter of 2007 witnessed unpleasant surprises delivered to global financial markets originating from the American one, for which greed, financial innovation and laxity of regulation were deemed guilty. The financial crisis of 2007–2008 initially referred to in the media as a «credit crunch» or «credit crisis», began in August 2007, when a loss of confidence by investors in the value of securitized mortgages in the United States resulted in a liquidity crisis which prompted a substantial injection of capital.

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Islamic Finance We think that our puzzle solving clue (hypothesis) to which we can attribute the crisis is the deviation from the basic assumption (or philosophy) driving investment as society welfare and growth tool on the long-term, to become a wild pursuit of short-term gains through orienting financial innovations and the laxity of regulations to serve such new target. Thinking out of the money box (Money received tomorrow= money + interest); an approach; to fit conventional financial tools into Islamic finance, instead of disguising it. As we believe the word Islamic as tag for any application cannot avoid its misuse rather than it can be considered as a standard or a base which must be used to judge the performance of the financial product before its introduction to the market, after usage and subsequently pinpoint adjustments or eliminations required. This should be the main role of the financial gate-keepers regardless of their ideology as the base of judgment that should be kept on sight at all times.

to become a wild pursuit of short-term gains through orienting financial innovations and the laxity of regulations to serve such perverted goal. In part 2of this paper we are going to emphasis this hypothesis as well as the importance of the gate keeper role.

blue prints of an approach to fit conventional product to Islamic principles through innovation rather than disguise. Part 6 finally offers some concluding remarks. Deviation from the basic assumption or philosophy driving investment A very complex number of reasons were accused to be behind the recent financial crisis –recovery is not yet concluded – coming on the top of the list was; greed, financial innovation and laxity of regulation especially in the United States market from which the crisis spilled over the rest of the world. However if we can conclude that greed is unavoidable and might be the heart of the motives of investment (regardless of our perception of greed as a word) and financial innovation is a must (it is our main target in this paper) and laxity of regulation may be the core of a liberal economy (which we agree with). So it is deviation from the basic assumption or philosophy of investment, accordingly we here under discuss the signs of deviation and when the warning bells should have ranged.

Raising the question of would Islamic finance philosophy have helped in prevention or partially eliminated such a crisis? We concluded that deviation from the original goal of investment and financial tools are the reasons leading to the recent financial crisis and we may dare to say all major previous crises. We can answer the question above which represents part 3 of the paper. However during our quest for answers within the Islamic finance literature we were not able to overlook the pit falls in the widely accepted Islamic financial application available as an alias of conventional financial tools. Reluctance of Islamic financial practitioners to benefit from ongoing crisis as an opportunity to reintroduce the Islamic finance as a solution to the international financial society, from this perspective part 4 shed light on the Islamic finance and international society. As the question then is would Islamic finance philosophy -rather than Islamic tools and applications- have helped in prevention or partially eliminated such a crisis? And the need was emphasized to recall asset standard and thinking out of box, part 5 introduces’ to

Islamic finance recently gained huge popularity no matter the motive is. Is its construction enough to provide solutions? Is it the mitigation to the current crises? Do we need to return to asset standard? or some more adjustments are needed to overcome the next crises.This article is trying to explore the causes of the recent financial crisis as well as developing an approach to fit conventional financial products to Islamic principles. The aim is to explore U.S. Subprime lending Expanded Significantly 2004-2006 the opportunity Subprime for an Islamic Share of Mortgage financial tool Originations (%) that can gain popularity and acceptance. 25 We believe that securitization was one of the complex 20 reasons behind the 20072008 financial 15 crises.

Deviation refers to any departure from main philosophy behind any application or course, thus breaching its values or alternating the goal. Accordingly, deviation in practice can be detected whenever an outcome does not coincide with goal. So, any deviation from goals should be considered as a sign that calls for scrutiny. The following are few signs that we consider crystal Home clear deviations Ovwnership that should have Rate(%) alerted scrutiny. -70 -69 -68 -67

-66

Suprime Share %

2007

2006

2005

2004

2003

2002

2001

-64 2000

0 1999

-65

1998

1997

We may say that the puzzle solving clue ( H y p ot h e s i s ) leading to the crisis was the deviation from the basic assumption or philosophy driving investment as society welfare and growth tool on the long-term,

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Home Owner Share %

Source: U.S. Course Breau, Hrvard University-State of the Nation`s Housing Report 2008

Investment banks and commercial banks overlapping due to GLB act 1999. The Gramm– Leach–Bliley Act (GLB), also known as the Financial Services Modernization Act of 1999 was desired by many of the largest banks, brokerages, and insurance companies at the time. The justification was that individuals usually put more money into investments when

2011 October - November Global Islamic Finance 53

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the economy is doing well, but they put most of their money into savings accounts when the economy turns bad. With the new Act, they would be able to do both ‘savings’ and ‘investment’ at the same financial institution, which would be able to do well in both good and bad economic times.Critics of the legislation feared that, with the allowance for mergers between investment and commercial banks, GLB allowed the newly-merged banks to take on riskier investments while at the same time removing any requirements to maintain enough equity, exposing the assets of its banking customers. Yet, prior to the passage of GLB in 1999, investment banks were already capable of holding and trading the very financial assets claimed to be the cause of the mortgage crisis, and were also already able to keep their books as they had. Also, greater access to investment capital as many investment banks went public on the market explains the shift in their holdings to trading portfolios. After GLB passed, most investment banks did not merge with depository commercial banks. In fact, the few banks that did merge weathered the crisis better than those that did not (Calabria, 2009). President Barack Obama believes that the Act directly helped to cause the 2007 subprime mortgage financial crisis. Economists Robert Ekelund and Mark Thornton (2008) have also criticized the Act as contributing to the crisis. They state that “in a world regulated by a gold standard, 100% reserve banking, and no FDIC deposit insurance” the Financial Services Modernization Act would

have made “perfect sense” as a legitimate act of deregulation, but under the present fiat monetary system it “amounts to corporate welfare for financial institutions and a moral hazard that will make taxpayers pay dearly.

RMBS and ARM Loans who their main role was to magnify the benefits of mortgage, this magnification target the following;

Nobel Prize-winning economist Paul Krugman has called Senator Phil Gramm “the father of the financial crisis” due to his sponsorship of the Act. Nobel Prize-winning economist Joseph Stiglitz has also argued that the Act helped to create the crisis.

•

Accordingly commercial banks should have not been allowed access to risky investments, subsequently putting their depositors at higher risk than the one they should have been exposed to. Even with proper disclosure, as risky investment is the area of investment banks by nature. As according to LaRoche “Investment Banks and Commercial Banks are Analogous to Oil and Water: They Just Do Not Mix.” Housing price inflation In order to understand the 2007-2008 crises which originated from the real estate market and mortgage securities were blamed for we have to understand that the following question. What is Mortgage? A mortgage is a loan secured by a property/house and paid in instalments over a set period of time. The mortgage secures your promise that the money borrowed will be repaid. Accordingly a lot of institutions and financial products were developed to be part of and to control this mortgage market like the Fannie Mae, Ginnie Mae and Freddie Mac and MBS,

•

Reduce the probability of default and spread risks and increase diversification. Reduce the burden of down payment and other servicing fees.

However in few years’ real estate inflation rate reached 125 percent enormously outpacing the overall economy inflation, which is a basic sign that should have triggered a scrutiny that in turn would have revealed more related signs for scrutiny as they show up such as: •

•

Increase in Subprime loans which was driven by the notion that buying a house is a foolproof investment along with the same with investment in MBS since interest rates were on the rise, thus creating excess supply of credit to MBS, and normally excess supply will push down the price (interest) which was not seen by the market as interest rates were rising. However the increase in interest rates did not mitigate the equivalent increase in risk which is a disguised price push down, due to the misuse and excessive marketing of subprime loans. Increasing executives’ compensation, during 2001-2004 employees in mortgage banking and brokerage were encouraged and paid several hundred thousand dollars for selling mortgage loans. Accordingly (Ip et al,2008) report that income and/or assets of numer-

Leverage Ration For Major Investment Banks The leverage ratio is a measure of the risk taken by a firm: a higher ratio indicates more risk. It is calculated as total debt divided by stockholds equity. Each firm`s ratio increased between 2003-2007

35 30

Lehman Brothers Bear Steams Merrill Lynch Goldman Sachs Morgan Stanley

25 20 15 10

2003

2005 Year Source Date Company Annual Reports(SEC From 10K)

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2004

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2006

2007

Islamic Finance ous mortgage lenders increased by threefold due to issuance of subprime loans.

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GLB Act 1999 which replaced the Glass-Steagall Act that existed since the 1933 great depression separating commercial banking from investment banking and insurance companies, which also reduced the Fed’s control on investment banks and implicitly allowed investment banks to undertake additional risks. The Commodity Futures Modernization Act of 2000 (Replaced the Shad-Johnson jurisdiction accord) allowing singlestock futures contract and deregulated numerous over-the-counter (OTC) derivatives including swaps. Cancellation of the uptick rule in the short selling encouraging risk taking behaviour from investors and when the market was falling, it even pushed it downward as in absence of the uptick rule during 2007-2008. Short sellers were able to bet heavily especially on financial stocks, and drove their prices down (even by 10-25 percent in a single day especially during the last quarter 2008). This is totally far from the intended goal as short sale was created for liquidity purposes and to enhance the market with different trading strategy, aiming at less volatility and efficient pricing. Introduction of the naked short sale by the SEC on July 6, 2007 since stocks are actually not borrowed, naked short selling artificially creates an excess supply of particular stock and reduces its price. This have led to excessive speculations from investors and went even up till betting on companies positions which literary drove the market from its normal pass in a gambling game. Since early 2000 investment in risky projects increased and accordingly the demand for CDS for two main reasons; investors wanted to hedge along with speculation that the risky investment

•

1. Beneficiary should be in direct relation with the risk insured against. 2. No profit is to be made out of the risk occurrence but only remedy.

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Security Market: The capital market is a market for securities (debt or equity), where business enterprises (companies) and governments can raise long-term funds. Problems has risen from the perverted goals of milking investors for commissions and fees for those steering the market by over cashing cow for the present investment, rather than creating new ones. The factor that most changed in the financial sector over the last decade is regulation. Housing bubble certainly is one of the causes of the financial crisis; however, regulatory policies that encouraged speculation and excessive risk taking behaviour helped creating the bubble.

may default.CDS were not only limited to subprime mortgage but they extended to cover auto loans, credit cards, accounts receivable, student loans, etc. Growth of Credit default swaps, by Late 2007 the CDS market was twice the size of the US stock market, ten times higher than the US corporate debt market and three times the size of the US GDP which implies that this is not a sound insurance from credit default rather than a heavy speculation game. The deviation can be detected if we consider CDS as an insurance tool against risky investment that should have adhered to the basic two principles of insurance:

The role of the gate-keepers to prevent or rectify the deviation. We found ourselves asking the following questions; is the US financial market a true free economy or controlled one? And if the US market is a free one what happened or what changed? Why the excessive cancellation of regulation without considering the collective effect? Seeking answers for the above questions took us back to the Enron 2001 crisis as we found numerous errors and omissions that existed and led to the problem still existed in the new 2007-2008 financial crisis if not magnified to the Marco level. During the study of the Enron 2001 crisis especially among law scholars some referred to not as a case of corporate governance failure but as a case of gate-keepers failure.

On the top of the list was; greed, financial innovation and laxity of regulation especially in the United States market from which the crisis spilled over the rest of the world

These 2 conditions were violated as Buyers of CDS do not require holding underlying debts on which CDS are written. Along with the above deviations comes the following remark concerning the CDS which may seem to be out of context unless we consider the questions in the next subtitle (2-4): • • • • •

• •

CDS are unregulated securities. There is no central clearing house for it. CDS are privately negotiated between buyers and sellers. CDS market is dominated by major global dealers with limited public disclosures. CDS were challenged with serious advisers’ selection and moral hazard problems as they were brought into the market without adequate regulatory supervision. CDS monitoring and transaction costs associated were also high. Contractual disputes between buyers and sellers may exist.

Know we can say that the reason behind the crisis is the deviation from the basic assumption or philosophy driving investment as society welfare and growth tool on the long-term, which was our puzzle solving clue (Hypothesis) from the beginning but was it deliberately or not to switch the financial market to become a wild pursuit of shortterm gains through orienting the financial innovations and the laxity of regulations, deliberately or not this calls for examining the role of gate-keeper.

“Although the term gate keeper is commonly used, here it requires special definition. Inherently, gatekeepers are reputational intermediaries who provide verification and certification services to investors. These services can consist of verifying a company’s financial statements (as the independent auditor does), evaluating the creditworthiness of the company (as the debt rating agency does), assessing the company’s business and financial prospects vis -a-vis its rivals (as the securities analyst does), or appraising the fairness of a specific transaction (as the investment banker does in delivering a fairness opinion). Attorneys can also be gate-keepers when they lend their professional reputations to a transaction, but, as later discussed, the more typical role of attorneys serving public corporations is that of the transaction engineer, rather than the reputational intermediary. Characteristically, the professional gatekeeper essentially assesses or vouches for the corporate client’s own statements about itself or a specific transaction. This duplication is necessary because the market recognizes that the gatekeeper has a lesser incentive to lie than does its client and thus regards the gatekeeper’s assurance or evaluation as more credible. To be sure, the gatekeeper as watchdog is typically paid by the party that it is to watch, but its relative credibility stems from the fact 2011 October - November Global Islamic Finance 55

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that it is in effect pledging a reputational capital that it has built up over many years of performing similar services for numerous clients.” Accordingly we can view the Enron case if not as a miniature form of the 20072008 financial crisis but as an introduction to it, because simply all the exotic tools (Like Derivatives, Futures and last but not least mark-to-market accounting practice) that led to Enron’s decay and failure were present in the late crisis with and even adjusted jurisdictions like the Sarbanes–Oxley Act of 2002 tackled mainly the issues of corporate governance totally omitting the role of the financial tools used by Enron and the like who played a major role in there failure in our opinion.

est signs of deviation-like those discussed earlier- in order to get suspicious practices under scrutiny. Also the US financial institutions should consider the implementation of Basel III and not to overlook it as they did with Basel II. Going through these details we can’t help concluding also and aside from the above, the issue is related to the Agency Theory on Macro level. The control of the republican government and forcing their ideology of free market and minimizing the role of the government in the economy in favour of private sector at an unprecedented scale, was finally taking its toll along with the overlooking of the Basel II agreement, rogue credit rating agencies and increasing executives’ compensation.

The above leads us to the inevitable question why don’t we have a Financial General or and Accounting General just like we have Surgeon General to watch over people health and District Attorney to defend people wrights as well as the society welfare. To find were did role fit we found that the job of gatekeeper existed in the Islamic governance since the late seventh century as a public servant called (Muhtasib) was a supervisor of bazaars and trade in the medieval Islamic countries. His duty was to ensure that public business was conducted in accordance with the law of Shariah.

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Rent Payments by Buyers

Periodic Payment by Buyer

In the late 10th century the duties of the Muhtasib of Cairo included “the regulation of weights, money, prices, public morals, and the cleanliness of public places, as well One of the very vague examples of gate as the supervision of schools, instruction, keeper failure is the credit rating agencies Remarks shown earlier in the last section teachers, and students, and attention to use “issuer pays” business model where bond issuers pays rating agencies to rate concerning CDS if not deviation it is an ex- public baths, general public safety, and the their debt securities. It is alleged that rating ample of looseness. We reached a degree circulation of traffic.” In addition, craftsmen agencies were paid by subprime mortgage that we disagree with the recommendations and builders were usually responsible to the loans’ issuers to favourably rate their secu- on having one single body regulating and ob- Muhtasib for the standards of their craft. rities. Portes (2008) documents an upward serving as we would recommend one body The Muhtasib also inspected public eating regulating and several observing. houses. He could order pots and pans to be bias in rating subprime re-tinned or replaced; MBS which is caused Bond price in secondary market Cash all vessels and their Investore Bond by artificially increased contents had to be kept house prices. In gencovered against flies eral, it is apparent and insects. The Muhtathat investors were sib was also expected to misguided by ratings Asset Reevaluation: keep a close check on all Investor Asset provided by the rating Replacement Cost doctors, surgeons and Profit agencies. The very deVs Market Value apothecaries. A MuhtaShare regulation and minimisib often relied on manzation of government uals called hisba, which rule as a controller, were written specifically forced the excessive for instruction and guidgovernmental involveRevenue generated ance in his duties; they ment in 2009 to resby asset contained practical adcue the market and vice on management of rectify the failures of the marketplace, as well Bond Repayment to Investor the US corporations as other things a Muhtawhich took the global sib needed to know -- for financial and economic example, manufacturing market down. and construction standards. Traditional Finance All of the above led us Bond Holder versus Islamic Finance: to confidently believe House (Asset) in the role of the EthiIMBS Fund The last decade of the cally Unbiased Gate20th Century and the keeper (whether it is few years towards the bethe government or any ginning of the 21stcenMarket Value of its representative tury showed explosion in T0/Y+Rent establishment or orMarket the area of financial inganization) in preventValue T0 novations. Fundamental ing such crisis or in economic forces have the worst case reducMarket Market Value T+1/Y+Rent led to increase competiing its effects or more Value T+1 tion in financial markets. bluntly to ambulance Greater competition in the wounded not to Market Value T+2/Y+Rent Market turn has diminished the count and collect dead Value T+2 cost advantage banks bodies, If it cannot act have had in acquiring so at least they can act funds and has undercut Market as a whistle blower or Market Value T+Y/Y (No Rent) their position in loan Value T+Y as fire alarm at earliOctober - November 2012

Islamic Finance markets. As a result, traditional banking has lost profitability, and banks have begun to diversify into new activities that bring higher returns. The ability to securitize assets has made nonbank financial institutions even more formidable competitors for banks. Advances in information and data processing technology have enabled nonbank competitors to originate loans, transform these into marketable securities, and sell them to obtain more funding with which to make more loans. Computer technology has eroded the competitive advantage of banks by lowering transactions costs and enabling nonbank financial institutions to evaluate credit risk efficiently through the use of statistical methods. When credit risk can be evaluated using statistical techniques, as in the case of consumer and mortgage lending, banks no longer have an advantage in making loans. An effort is being made in the United States to develop a market for securitized small business loans as well. Before 1980, two U.S. banks, Citicorp and Bank America Corporation, were the largest banks in the world. In the 1990s, neither of these banks ranks among the top twenty. The problem is not limited to United States only but it is a worldwide epidemic as stated by (Edward and Mishkin, 1995, p.35). “French and British banks suffered from the worldwide collapse of real estate prices and from major failures of risky real estate projects funded by banks. Olympia and York’s collapse is a prominent example. The loan-loss provisions of British and French banks, like those of U.S. banks, have risen in the l990s. One result has been the massive bailout of Credit Lyonnais by the French government in March 1995. Even in countries with healthy banking systems, such as Switzerland and Germany, some banks have run into trouble. Regional banks in Switzerland failed, and Germany’s BfG Bank suffered huge losses (DM 1.1 billion) in l992 and needed a capital infusion from its parent company, Credit Lyonnais. Thus, fundamental forces not limited to the United States have caused a decline in the profitability of traditional banking throughout the world and have created an incentive for banks to expand into new activities and take additional risks.” Much of the controversy surrounding banks’ efforts to diversify into off-balance-sheet activities has centred on the increasing role of banks in derivatives markets. Large banks, in particular, have moved aggressively to become worldwide dealers in off-exchange or OTC derivatives, such as swaps. Their motivation, clearly, has been to replace some of their lost banking revenue with the attractive

returns that can be earned in derivatives markets. Banks have increased their participation in derivatives markets dramatically in the last few years. In l994, U.S. banks held derivatives contracts totalling more than $16 trillion in notional value. Of these contracts, 63 percent were interest rate derivatives, 35 percent were foreign exchange derivatives, and the remainder was equity and commodity derivatives. Islamic finance is any finance that operates with the principle of Islamic law (Shariah). It is one of the fastest growing segments of today’s banking industry. Ahmed (2010, p.1) argued that the world financial system suffered for too long under conventional (Riba) based banking system. The world in searching for an alternative is “hungry to hear the message loud and clear”. Islamic finance is an asset based system. Money in itself has no intrinsic value. The prohibition of paying and receiving fixed, predetermined rate of interest is crucial in Islamic finance. The sale of debt and speculation are not allowed. In the conventional financial system risk is transferred and sold while in Islamic finance it is shared like collective insurance scheme. Ethics and social responsibility are pillars to Islamic finance. Alchaar (2010) pointed that we are facing today a dilemma of compounded greed of individuals, institutions and nation states. Many individuals were trying to buy better houses than they can stand for, institutions who are gambling on the benefit of each other through the creation of credit default swaps and nation states with the laxity of regulation. He states (p.1) “These macroeconomic imbalances prevailed in the last decade or so resulted in a downward impairment of the term structure of interest rates. This in turn stimulated demand for credit based instruments that achieved the desired yield uplift. It was called “financial innovations”. We all believed in the fallacy that these sophisticated tools and instruments would create value. Apparently, the value they created was mostly illusory … It was a textbook-style manifestation of regulatory sabotage”. The operations of Islamic finance are based on profit-loss sharing principle and risk division in losses and profits between lender and borrower. Two fundamental financial tools are based on profits and losses principle which are (mudarabah) and (musharakah) contracts. The former is used as investment fund where the financier provides the essential capital and the entrepreneur provides the management. They share profits but the financial losses are beard by the provider of funds alone while the entrepreneur losses his efforts. The latter mushar-

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akah is a form of partnership through an equity participation contract. The profits and losses are shared according to partner’s share in financing. In addition to profits and losses contracts there are other non-profits and losses modes of finance such as cost plus financing (murabah) which is used in trade and asset finance. The Equivalent to leasing in conventional finance is Islamic finance which relay on (Ijara) and is used in home purchasing. The investor or the lessor which is probably the bank purchases and leases the underlying asset to the borrower or the lessee for a specified rent and term. The international financial society after experiencing the severity of the late financial crisis may be ready to accept the Islamic financial applications (no matter the motive is). As we consider the core value to Islamic finance in trying to judge issues we strongly believe that the conventional financial tools are not all total evil that should be discarded in favour of the Islamic developed ones as the problem is in the usage of the tool not the tool itself. (As for example Joint ventures and business partnership identically implies the same rule of Musharaka which is the most widely accepted and undisputed Islamic financial applications). •

We also found that numerous existing Islamic financial applications are just translation of conventional financial tools without proper innovation in the techniques using mysterious phraseology and debated jurisprudence issues (such as the importance of transferring the title deeds and ownership even if it is done fictitiously) to be able to attract new customers to the financial institutions. As for example the Murabaha in practice is a very vague example of conventional loans disguise, sellers of such product have continuously failed to provide acceptable explanation on the basis on which they have calculated the excess over initial value. • Furthermore from our understanding of the Islamic finance one important rule that should be fundamentally used in assessing and financial tool that is no profit sharing allowed without assuming part of the risk. The impeded importance of this rule is that its application relaxes all prohibitions up to our concern and we urge Shariah scholars to examine such hypothesis • We have also reached solid belief that the implementation of the Islamic finance without a currency covered by gold is almost impossible as the goal required to be reached is the Zero interest and without link or reference between the current paper money currently widely used and a relatively stable precious metal to measure devia2011 October - November Global Islamic Finance 57

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Islamic Finance tion over long period of time in order to eliminate inflation and deterioration of paper currency value hinder the implementation of Islamic finance which will only remain cosmetics not a real implementation. If not applicable because of deviation from the global trend then assessment based on assets (asset standard) should be in place which is the core of our introduced approach in part five.

business model where bond issuers pays rating agencies to rate their debt securities. It is alleged that rating agencies were paid by subprime mortgage loans’ issuers to favourably rate their securities. Portes (2008) documents an upward bias in rating subprime MBS which is caused by artificially increased house prices. In general, it is apparent that investors were misguided by ratings provided by the rating agencies.

Would have Islamic finance helped in preventing or partially eliminated such a crisis? The non-prohibition of speculation has drifted investment out of its intended role as route to welfare and social benefit to become a gambling tool for speculation adrenaline junkies. Sticking to the major classification of prohibitions in the Islamic finance we can determine the following:

Though the Islamic Shariah prohibits the above unethical behaviour of individuals and institutions but it cannot prevent it. However, if ethical behaviour is promoted and compensated throughout normal market mechanism this will be the mean to real liberalization Islamic style. Also worth mentioned here that almost all this mull practices are legally condemned globally which resembles a coincide of rational and widely accepted ethics with Shariah.

The prohibition of taking or receiving interest. This item helps investors to think out of the box (money tomorrow=money + interest) and concentrate on assets rather than on the money itself. As money is a mean not the way to growth. So, by prohibition of interest any investor would convert his money into profit yielding assets instead of keeping it in its raw form of liquid money, this coincide with the real function of Stock Exchange; if you can’t invest by yourself, share and delegate management. Capital must have a social and ethical purpose beyond pure, unfettered return. This rules forces investors to consider the society welfare and to take into Description consideration the ethical and Square Footage moral hazards of Year Built any investment Market Value made within the society which Cost to Replace Home was overlooked as we have seen in the financial crisis in the following points: 1. Huge redemption by portfolio manager and “dark pool liquidity” (Institutional order flows, usually in block trades but not available to the public) are partially responsible for high stock market volatility. 2. A recent document filed in New York State court report that bankers, brokers, dealers and traders involved in CDS trading used text messaging to share private information about firm’s interventions and positions before actual trades. 3. Credit rating agencies use “issuer pays”

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A prohibition on transactions involving maysir (speculation or gambling). This was also violated as seen in the financial crisis in the following issues: 1. Many hedge funds, in addition to using CDS to hedge their portfolios (or bet against a company) sold short financial stocks while these actions by the hedge funds helped them to make profit from target company’s diminishing financial performance and value, they created a downward pressure on the stock prices of numerous companies and contributed to high volatility. 2. It is also alleged that numerous hedge Thriving Suburb

Depressed Neighborhood

2,500

1920

$285,000

$120,000

$275,000

funds managed to collect private information and data from analysts of different firms and made bets that the stock price of those companies would decline. A prohibition on gharar, or uncertainty about the subject-matter and terms of contracts this includes a prohibition on selling something that one does not own. 1. Naked short selling is used to anticipate a price fall, but exposes the seller to the risk of a price rise. Naked short selling has been illegal in the United States since 2008, as well as some other ju-

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risdictions, as a method of driving down share prices. Failing to deliver shares is legal under certain circumstances. 2. CDS were challenged with serious advisers’ selection and moral hazard problems as they were brought into the market without adequate regulatory supervision and buyers of CDS do not require holding underlying debts on which CDS are written. 3. Commodity future contracts are also a major example of selling what you do not own and was heavily invested in. Investments in businesses dealing with alcohol, gambling, drugs or anything else that the Shariah considers unlawful are deemed undesirable and prohibited. These items were deemed unlawful by the Islamic Shariah, mostly due to their greater damage to society away from any minimal benefit they can achieve if any. Remember that even in societies with different ideology that accept the above mentioned practices have a toler-

Islamic Finance

ance ceiling like: 1. Driving under the influence of alcohol and/or drugs is criminalized. 2. Smoking is now almost prohibited with the new antismoking laws. 3. Production and sales of alcohol is in special places with strict supervision and regulation. 4. Gambling is allowed only in special places with strict supervision and regulation. The clear answer to the raised question in this part is; Yes Islamic financial philosophy would have partially eliminated such a crisis, due to its capacity to eliminate factors that deviates from the basic assumption of investment as a mean of production hence prosperity and welfare of the society, such factors would have not been even introduced to the market. The only factors that Shariah would not have eliminated its effect are those related to mal-practice and behavioural and ethical issues that should be discourage throughout market mechanism

or legal condemnation which is the holding nature of it. Blue prints of an approach to fit conventional product to Islamic principles through innovation rather than disguise. As we have discussed above to think out of the box when trying to innovate and develop new Islamic financial tools and applications in order to be able to legitimize it according to Shariah. We have to let go the major belief in conventional finance which is money and to think in terms of assets instead. More thinking out of the box -in the same contextis to avoid the classification of borrower vs. lender, that to be replaced by operating partner vs. financing partner, or even more widely by permanent partner vs. temporary partner. As traditionally the question was, who will benefit out of the equation Fn= P (1+r) n (Future Value of $1 (r = interest rate; n = number of periods until valuation; P = $1), an equation that imbeds variables that in most are not controlled by either parties, in short run such an equation may turn to be a win-win relation however it is a matter

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of time till it favours one of the parties on the long run; so that it is no more a win-win. Back to the sacrificed classification (lender vs. borrower) whomever you favour you canâ&#x20AC;&#x2122;t grant a fair relation. Though we chose the bond latter as our experimental application in the next part of the paper, we will use it now as an example of the above discussed dilemma; a bond yielding an interest of 12% of which inflation represents 8% and the 4% are the average required return on the expected growth of the investment we are involved in, so let us examine the deviation in each part of the equation and whom does it favour ; increase in inflation rate everything being constant (economic impossible condition) this favours the borrower and vice versa. Increase in the growth rate of the investment favours the borrower and vice versa and a combination may occur at different levels, these are the factors that neither keep constant nor can be accurately anticipated. The above mentioned illustrations pave the road to as2011 October - November Global Islamic Finance 59

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Islamic Finance

set standard financial tools; where equality is the base, hence all parties will experience the same level of risk as we may dare say that we will eliminate the inflation effect and we will be then left with the growth which will be shared on good or bad base. Blue print of asset standard Bond We chose the bond as experimental application to apply this concept and we would like to go through the development of such an Islamic bond in the same way we have discussed it through a brain storming session of questions and answers. However, keeping in mind that for bonds to be Halal no interest rates or discount rate- what so ever- should be applied to avoid Riba. The following introduction will help determining the questions or problems we faced. Traditionally a Bond life cycle start by its initial price face value which totally depends on the current market interest rate in the case of discounted bond type, this is the first date on which we face the interest rate though it may not be an issue for the yielding bond type at issuance. However it eventually arouse when we try to price any of the two types in the secondary market, and if it is an avoidable issue in pricing for the yielding bond type, it is an issue for yield calculation along its life cycle, bond redemption at maturity may not be a subject as a nominal amount however its real value of money is; it is a multiplier of sorrow for one and only one of the parties, and multiplier of joy for the other party, especially in the long run as discussed before –the borrower is a long run player by nature. Shall we not be able to avoid sorrow, we may assume sharing it. We consider the concept of sharing to be the healthiest attitude for real investment. To sum in the absence of interest we are facing the questions of; How will we determine the face value? Calculate returns? Determine the secondary market price at any given point of time? Redemption value, at the end of its life? Over and above the listed questions “What is in it for me?” was the hardest question to answer, to overcome the concept of interest that dominated our way of thinking and facilitate the answer for such a kind of questions throughout our professional and scholar career, was the hardest part of the process of developing this blue print so and before going through our answers for these questions, we emphasis that even though we may argue that this particular application may not call for a generic change in the financial culture (economic, accounting, legislations and etc…) which might be a prerequisite for other applications, it do call along with any application that depends on the as-

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set standard for a generic shift in basic concept of what is in it for involved parties? Base point in this application is relating the bond to a particular asset or portfolio of assets accordingly the investor is not lending the organization as a whole however he/she is a temporary partner in a particular asset which is then the base for all questions related to such concluded temporary partnership contract between investors, along with emphasizing the concept of partnership the undisputed form of Islamic financial tools it answers the above mentioned questions as follow: How will the face value of the bond be concluded among partners? Simply as the share of temporary partners- bond holders- in the cost of the asset or required investments divided by the number of issued bonds. How will returns be calculated? According to its original share of the related asset or portfolio of assets returns; which may take as many as the word return as a concept hold; that is direct profit, cost reduction, shadow price …etc. or even a combination. How will it be evaluated in the secondary market? According to its original share of financing the related asset or portfolio of assets, as a percentage of current replacement cost or current market value. How will it be redeemed by end of its life? Same as secondary market evaluation. At this stage of the application we would like to draw attention to some of the related aspects that was not overlooked rather than it was left for market mechanism to choose among options or create a proper mechanism, such as; Asset or portfolio of assets vs. the entire entity The related financial areas such as accounting, taxation….etc. in the introductory phase of the approach, we use the single asset or a portfolio of assets, never the less market may develop the temporary partner into a partner in the entire entity, entitled to a share of the profit regardless of the dividends distribution for instant. Appropriate partnership ratio and corporate governance The question at this stage is should the permanent partners have a share in the asset? Or could it be 100% financed through temporary partners, if not what is the appropriate ratio? Should such ratio or type of relation be discussed in isolation from governance and the ability of the permanent partners to manipulate the outcomes of the asset, or it is indifferent as the permanent partners in spite of their theoretical accessibility as

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stock holder to management may not be able to exercise the full power, will the theory of stake holder and long run relation with creditors hold against such threats? These questions are example of the questions that we left for the market for two reasons, first it is not the core concept of the application and market mechanism is capable of resolving it, the second reason is – and we repeat- Shariah would not have eliminated the effect of factors related to mal practice and behavioural and ethical issues that should be discouraged throughout market mechanism or legal condemnation which is the holding nature of it, otherwise a lot of day to day practices in all social aspects can be prohibited for future miss usage probability. Replacement cost vs. Market value; This question was tackled and debated in several papers in insurance area and we favored the market value as it will always reflect the true value of the assets with its relative competitive advantage. For example, a home purchased in a depressed city neighbourhood, may have a market value of $120,000.The exact house, located in a nice suburb, may have a market price of $285,000; however, the cost to rebuild the house after a loss would be the same in either location. The insurance company is looking to insure the home for the full replacement value, not the current market value. Remember, they are going to pay to build you a new home, not buy one for you down the street. Mortgage as an example of asset standard Examining the capacity of the asset standard to develop a simple application such as bond and we mean by simplicity the presence of a return yielding asset can we examine its capacity in more sophisticated application, on the scale of financial complexity as well as the lack of return generating asset. For this goal the mortgage seems to be challenging and criteria fulfilling application, however and to be frank it won’t be as challenging as the bond application as the late represented the concept relaxing. However the merit of this application buried in its capacity to be applied for any type of durable goods thus covering a huge range of house hold needs, accordingly lubricate the market. Solving clue in this application is the partial selling of an asset, along the loan life Here it will be hard to think out of the box, but assume we are to sell a set of ten cups, one cup at a time, and each time the buyer shows for his/her periodical cup (10% of the asset) we will price it to the market the same can be applied to house sale or as it is called

Islamic Finance mortgage, however which part of the house buyer wants be able to use as he/she yet didn’t pay for it, and if buyer can use it all then, what is in it for the seller? Traditional as in Murabaha a premium was the suitable answer, however subject to debates by jurisprudence bodies, so we figured out that seller can receive a rental value for the unsold portion, this won’t only answer the “what is in it?” , but also in case we need to reschedule, what you didn’t buy you pay rent for it, that is in a given period of time if the buyer can’t buy his/her periodical portion either fully or partially the seller will still be able to receive the rental value of whatever not yet sold part of the asset. Then we may introduce the securitization by a simple question; can we replace the seller by a fund that issues Islamic mortgage backed securities? The answer is: sure, developing the bond application to fit. Again and at this stage of the application we would like to draw attention to some of the related aspects that was not overlooked rather than it was left for market mechanism to choose among options or creates a proper mechanism. Of this we may mention the following: Rental value Should it be fixed or also evaluated year to year? Is any of this application against Shariah if not defiantly it is to be left for market to choose the best, in all parties benefit on a competition base or else. What will assure keeping the quality of the asset in case of full default? It seems to be a problem at first glance but overcoming it is a value added for the economy rather than a solution simply we may state. 1. Maintenance contracts source of revenue and assuring the value of asset is maintained against wear out (this is applicable to many assets other than houses that can be subject for rent contracts such as automobile…etc). 2. Takaful (There is more than one alternative for insurance that may be accepted by Islamic philosophy) contracts among buyers (for social benefit). Remember separating the entities working on these aspects is to be carefully examined to avoid split over experienced in 2007-2008 financial crisis(If we really got the lesson). Appling asset standard tool in this fashion as it relax the concept of no return without assuming risk, it in turn avoid all the Shariah prohibitions, that is not favouring Islamic finance as an ideology, rather than it favours a sort of guarantee for finance to keep in track as source of human welfare.

Conclusion Sticking to the core philosophy of liberal, rational and widely acceptable ethical investment coincides with the Islamic financial philosophy and we may dare to say Shariah “the divine rule by the almighty for human prosperity and welfare”. Judgment of any tool should not be the responsibility of religious clerics only, but should be the work of scholars with deep understanding of the tools subject to scrutiny from economic, financial, accounting and last but not least Shariah . Islamic as tag for any application cannot avoid its misuse rather than it can be considered as a standard or base to be used to judge the performance of the product before its introduction to the market and after usage and subsequently pinpoint adjustments or eliminations required. This should be the main role of the financial gate-keepers regardless of their ideology as the base of judgment should be kept on sight at all times as important as it gets to have a surgeon general (to look after people health and prevent misuse of drugs and food additives), attorney general (to represent the society right against others) there should be an accountant general and investment and stock exchange general to protect investors and business stockholders from being abused by the misuse of financial tools. As one of the issue discussed in the financial crisis causes was the financial illiteracy among parties and accordingly the last thing we need is to have a new financial crisis (that would be attributed to Islamic financial tools rather than its misuse), due to the lack of knowledge of the effect of the newly introduced tools on the financial market and economy.

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References and Further Reading •

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Finally, readers should not consider the financial tools blue-prints illustrated in section 5 of this paper as rigid frames to follow but a flexible model that can be amended, adjusted and rectified if required to suite unique financial requirements of a liberal free market economics based on the free laws of supply and demand.

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At last, it is very important to grab the opportunity to develop fully integrated financial solutions in terms of tools, accounting practices and standards and economic studies distinct enough to be the core/seed for an integrated Islamic economy.

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Alexakis, C. and Tsikouras, A. (2009), “Islamic Finance: Regulatory Framework- Challenges Lying Ahead” , International Journal of Islamic and Middle Eastern Finance and Management, Vol.2, No.2, 2009, pp.90104. Ahmed, F. (2010), “The Future of Islamic Banking and Finance in the GCC and the world”, Opinion Column, accessed on 12th December at http://www.opalesque.com/ OIFI143/Opinion_Column_The_Future_of_ Islamic_Banking_and43 html. Alchaar, M. (2010), “Chairman’s Speech”, Euromoney’s 9th Annual Islamic Summit, Accounting and Auditing Organization for Islamic Financial Institutions, London, February 23, accessed on 15th December at http://www.aaoifi.com/AAOIFI%20-%20Euromoney%20-%20Speech%20by%20Dr%20 M%20N%20Alchaar.pdf. Baram, Marcus., (2008) “Who’s Whining Now? Gramm Slammed By Economists ‘Nation of Whiners’ Comments Criticized by Finance Experts in Light of Current Crisis” – ABC News / Politics Sept. 19, 2008 – Available from http://abcnews.go.com/Politics/ story?id=5835269&page=1 – Accessed on {11 November 2011}. Calabria, Mark A. (July/August 2009). “Did Deregulation Cause the Financial Crisis?”. Cato Institute. Availablefrom:http:// www.cato.org/pubs/policy_report/v31n4/ cpr31n4.pdf Accessed on 2009-07-28. Coffee, Stupid John C. Jr. – (July 30, 2002) , “Understanding Enron: It’s About the Gatekeepers”, The Center for Law and Economic Studies, Working Paper No. 207. Edwards, F. and Mishkin F. (1995), “The Decline of Traditional Banking: Implications for Financial Stability and Regulatory Policy,” Federal Reserve Bank of New York, Economic Policy Review, Vol. 1, No.2, pp. 27-45. Ekelund, Robert; Thornton, Mark (2008-0904). “More Awful Truths About Republicans”. Ludwig von Mises Institute. http://mises. org/story/3098. Retrieved 2008-09-07. Freshfields Bruckhaus Deringer . (2006), “Islamic Finance: Basic principles and structures a focus on project finance UK”, Routledge Press. Hill, Donald.(1984) A History of Engineering in Classical and Medieval Times, Routledge Press, NY. Ibn al-Ukhuwwa.(1938), “Ma’alim al-Qurba fi Akham al-Hisba” Gibb Memorial Series, London, 1938; Arabic text, edited and translated (in abridgement) by Reuben Levy. Ip, G, Hagerty, J.R. and karp,J. (2008) “Housing bust fuels blame game”, Wall Street Journal, February 27, p. l. Jobst, Andreas A. (August 2007) WP/07/117 – IMF Working paper - The Economics of Islamic Finance and Securitization, International Monetary Fund. LaRoche, Kevin.(2009) Investment Banks and Commercial Banks Are Analogous to Oil and Water: They Just Do Not Mix http:// econc10.bu.edu/Ec341_money/Papers/ LaRoche_paper_lg.htm. accesed 16 July 2009. Mazumder M. Imtiaz and Ahmad. Nazneen (2010) “Greed, Financial innovation or laxity of regulation? A close look into the 20072009 financial crisis and stock market volatility”, Studies in Economics and Finance, Vol. 27 Iss: 2, pp.110 – 134.

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Islamic Finance

ISLAMIC FINANCE AND INTERNATIONAL FINANCIAL REGULATION

Author: Emily Sarah Hersh, financial Consultant, SPOT-trade Elite Trading Service

Abstract: The financial crisis has revealed underlying weakness in the current global financial architecture. International financial regulation seeks to promote stability by preventing systemic failure, but the crisis has severely damaged the credibility of the status quo, leading to calls by many to correct its apparent failures before new ones arise. Upon this background, a variety of alternatives are being proposed and seriously considered by those who feel wronged by the current architecture.

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Islamic Finance Islamic finance is one of these alternatives. At the 2009 World Islamic Economic Forum, “Muslim presidents, prime ministers and princes called on the world to adopt Islamic financial practices to overcome the global crisis and urged Islamic banks to undertake ‘missionary work’ in the west to promote Sharia banking.” Proponents view Islamic finance as inherently more stable than conventional finance, bolstered by the fact that Islamic institutions appear to have largely avoided the fallout of the crisis due to lack of exposure to the subprime mortgage market and the absence of complex structured products. The need for change is undeniable, but whether Islamic finance should replace the current system is dubious. What is relevant to policymakers in the current crisis is the experience of Islamic financial regulation in comparison to conventional regulation. The success of any global movement requires the establishment of a universal framework to regulate and stabilise activities in the case of Islamic finance, the establishment of an Islamic financial architecture. This paper will briefly explain Islamic finance, and then consider the current regulatory framework for conventional banks, highlighting the requirements of the Basel II agreement and the proposed changes under the Basel III amendments. It will consider the Islamic Financial Services Board (IFSB), the current Islamic regulatory body, compared to the Basel II agreement, and examine the need for certain countries, specifically Bahrain, to adopt both regulatory systems. It will conclude by considering the ramifications for the future of international financial regulation. Background: The Roots and the Practice of Islamic Finance The practice of Islamic finance is based on passages of the Qur’an, prohibiting Muslims from engaging in forbidden economic activities, which shaped early Islamic commercial practices. These activities consist most notably of riba, closely translated as interest, and gharar, closely translated as uncertainty. In March 2008, Islamic financial institutions managed an estimated $700 billion in assets globally, and predictions suggest asset holding will increase at a rate of 24 percent annually. Additionally, as a whole, the Islamic finance industry’s annual growth rate has averaged 23 percent since 1994. While there is debate over whether products should reflect an Islamic meaning or be in compliance with Islamic law (Shariah), in practice, Islamic financial products are Islamic in form rather than substance, and closely mimic conventional counterparts to achieve deeper markets and global competitiveness.

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Islamic products are offered by three major categories of banks: banks in countries with fully Islamicized financial systems, fully Islamic banks that operate internationally alongside conventional banks, and conventional banks that offer Islamic products through Islamic windows. Pakistan, Iran, and Sudan have officially fully Islamicized their financial systems; however, these countries are rife with varying degrees of political turmoil, poverty, international indebtedness, war, and informal sectors6 that stand in the way of strong systems, Islamic or not. Fully Islamic banks operate primarily in the Middle East and Asia. Islamic windows are operated by conventional banks in areas where a significant Muslim population demands these services, including the Middle East, Southeast Asia, the United States, and Western Europe. Figure 1 shows the distribution of Islamic banks by region in 2002, illustrating the industrial dominance in internationally operative banks in the Middle East and Asia. While Islamic finance is small compared to the global financial system, and concentrated in areas where Islamic products and services are demanded by Muslim clientele, its international nature and rapid growth warrant a strong framework to ensure harmonization and universally accepted standards. Strength of an international system requires institutionalized regulations to promote stability and consistency. In the case of conventional finance, the Basel Committee of the Bank of International Settlements fills this role. Islamic financial products largely mimic their conventional counterparts, making the Basel regulations an appropriate starting point. Conventional Financial Architecture: Basel II and III The goal of international financial regulation is to increase the stability of a system characterized by risk. The system is vulnerable to bouts of instability capable of causing systemic crises; furthermore, regulation through ongoing supervision is superior to the simple existence of a lender of last resort (LOLR). A LOLR promotes stability by mitigating the effects of crises and preventing panics, yet this stability comes at a cost. The existence of a LOLR creates moral hazard by providing financial institutions with a safety net that mitigates potential losses and guarantees that institutions that take excessive risks will be able to recapitalize. Ongoing supervision can mitigate this moral hazard by identifying potential problems sooner and ensuring early remedial action. Bank failures and the ensuing financial crises generate severe externalities for taxpayers, who are forced to finance costly bailouts. Regulation is justified on the grounds that the risk of systemic failure and 2011 October - November Global Islamic Finance 63

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Islamic Finance

cost of potential consequences outweigh the benefits of an unregulated system, and that it can correct market inefficiencies that arise from deposit insurance and the existence of a LOLR.

did not address operational risk. Since the implementation of Basel I, increased securitization of loans created major regulatory arbitrage opportunities that caused banks’ regulatory capital requirements to diverge from their actual exposure to risk. Additionally, as the banking industry as a whole grew in complexity with the development of new products and instruments, banks devised similarly innovative methods to more accurately manage their risk. International regulation exists to stabilize the system by promoting a common approach to risk management. Basel I was no longer applicable to the evolving, differentiated international banking system.

Until very recently, international financial regulation was dictated by the 2004 Revised Framework on International Convergence of Capital Measurement and Capital Standards, known as the Basel II agreement. The agreement presented a three-pillar approach to defining and monitoring capital adequacy for international banking institutions. Pillar I established minimum capital requirements based on the risk of banks’ assets. Pillar II put forth a system of supervisory review to assess a bank’s systems, controls, and risk management that can further influence the minimum capital requirement. Pillar III enforced market discipline by increasing information through rules promoting disclosure and transparency. Theoretically, these pillars provided architecture for international banking that efficiently maximized societal benefit by minimizing unnecessary risk.

Emily Sarah Hersh received her M.A. from American University’s School of International Service in May 2010, where she studied International Economic Relations with a concentration in Middle East Studies. While at AU, Emily served as Editor in Chief of the Journal of International Service and worked as a research assistant for Dr. Kristin Smith-Diwan on issues including Islamic Finance and Islamic political movements in the Persian Gulf. Upon graduation, she received the Samuel L. Sharp Award for Creative Work in International Relations at the Graduate Level. Emily has worked as an independent consultant on issues of private equity and start-up building for Native American Capital and Exoventure Associates. Emily is currently living in Buenos Aires, Argentina, where she is works as a financial consultant in the Private Client Group of SPOT-trade Elite Trading Services. She can be contacted via email at EmilySHersh@gmail.com.

The first pillar defines a bank’s minimum capital requirement based on credit risk, operational risk, and market risk. Banks’ credit risk, the risk of borrowers not repaying their loans in full and on time, is assessed using either a standardized approach of weighted risk categories or a newer, internal ratings-based (IRB) approach based on banks’ self-assessment of the probability and exposure in the event of default, loss, and maturity. Operational risk, the risk of loss in the event of “inadequate or failed internal processes, people and systems or from external events including legal risk,” is assessed, quantified, and reflected by a capital charge added to the capital adequacy requirement. Operational risk is quantified using a basic indicator approach, a standardized approach differentiating between eight lines of business, or the advanced measurement approach allowing individual banks’ internal operational risk-measurement systems to generate the appropriate charge. Finally, market risk, the risk of an asset depreciating due to market forces, is considered to minimize arbitrage possibilities. Pillars II and III seek to regulate the environment within which international banks operate. Pillar II specifies the bank’s role in self-monitoring and the committee’s supervisory power to monitor and enforce capital requirements, to require that banks hold capital above the minimum, and to intervene early to prevent crises. Pillar III enhances market discipline by mitigating informational asymmetries that shield banks 64 Global Islamic Finance

from market forces. It requires banks to operate transparently by implementing a formal disclosure policy regarding risky products and operations, especially for banks that opt to use the IRB approach. The three pillars of Basel II attempt to manage risk by addressing its complex array of origins to most accurately stabilize the system. The Basel Committee established the Basel II agreement to address and correct Basel I’s weaknesses in assessing risk. Basel I failed to quantify and subject important risks to capital regulation; most significantly, it

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The Basel II agreement departs most significantly from its predecessor by permitting banks to use an internal ratings-based (IRB) approach to quantify many categories of risk. It provides three approaches to calculating the minimum capital requirement for credit and operational risk: the Standardized Approach, which assigns a minimum percentage based on individual assets’ risk categories, the Foundational IRB approach (F-IRB), and the Advanced IRB approach (A-IRB). Banks may elect to use whichever of the three approaches best suits their individual operations and financial market infrastructure. The complexity of Basel II reflects the paradoxical nature of international financial regulation: as international banking evolves in size and complexity, the need for universal standardization and regulation to ensure the stability of the system increases drastically; contrastingly, the possibility of conceiving of and implementing a single set of standards decreases precipitously. Basel III refers to the package of amendments to the Basel II regime created as a direct response to the 2008 international financial crisis, which was not averted by the existing regulatory framework. Basel III does not change the fundamental architecture of Basel II, but makes a series of adjustments to the calculation components with the effect of increasing the amount of capital banks are required to hold at all times, and imposes constraints on certain banking activities. While at the time of writing, Basel III has not yet come into effect, it is predicted that it will increase the capital charge for derivatives and securities transactions, increase the risk charge for exposures, increase minimum capital levels allowed, change the definitions of capital permitted to count towards meeting minimum levels, increase the leverage ratio, and impact the liquidity coverage ratio (LCR) and net stable funding ratio (NSFR). These increases will not take

Islamic Finance place immediately; instead, banks will be given until 2023 to implement changes. The purpose of these changes is to increase the quality and transparency of the capital base, to strengthen the risk coverage of all institutions, to reduce the cyclicality of the Basel II requirements, and to generally increase liquidity and reduce risk. Although adoption of Basel III is technically voluntary, it is considered a necessary prerequisite for banks to operate internationally; indeed, it has “…effectively set the standard for the world,” evidenced by its implementation in at least 100 countries. Yet, as the paradox suggests, wider implementation will exacerbate the difficulty in having one set of regulations. Increasingly diverse institutions will introduce similarly diverse risks that may be specific to regional circumstances or cultural practices and not fall conveniently within the Basel framework. Universal regulation is desirable, yet what options are available to internationally operative banks that find Basel inadequate or inapplicable? The response of Islamic banks to this question provides an example with proscriptive implications for the future of international financial regulation.

. . . in the identification, measurement, and mitigation” of the risks faced by Islamic banks. The IFSB seeks to fill the regulatory gap between Islamic banks and conventional regulation by creating a framework to identify risk and quantify minimum capital requirements. Pillar I of Basel II addresses credit, market, and operational risk. Islamic banks face similar credit risks as their conventional counterparts, with differences resulting from the profit- and loss-sharing or -bearing arrangements under some Islamic products. Islamic banks are exposed to greater market risk from products tied to commodities whose prices are subject to market fluctuations, and additional equity-position risk from stakes in the businesses they finance. They are exposed to less market risk because Shariah prohibits taking large open/speculative positions in the futures market. These credit and market risk differences present technical differences in quantifying minimum capital requirements, but it is in operational risk that Islamic banks differ most significantly. Islamic banks face significantly higher operational risks than conventional banks. These operational risks can be divided into two categories — those inherent and unavoidable in Islamic products and those that result from the undeveloped nature of Islamic banking. The current form of Islamic banking has only existed since the mid1970s, resulting in systems, processes, and products not sufficiently mature to allow the identification and management of the majority of problems and risks. The rapid growth of Islamic finance has strained resources, including the supply of skilled experts in banking and Shari’ah. Modern finance relies on advanced technology, yet computer software for Islamic financial services is less tested, less robust, and at times inapplicable to many operations of

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Islamic institutions. These operational risks will arguably lessen over time and converge with levels similar to conventional banks. Much of the operational risk that Islamic banks are exposed to is intrinsic to their Islamic products and services, and will remain perpetually present. Islamic products are contract-based, requiring an extra legal step, and have more components than their conventional counterparts. These differences increase vulnerability to documentation error, processing mistakes, and legal risk. Islamic banks hold more physical assets on their balance sheets, and Islamic insurance cannot insure against losses to the extent of conventional insurance. Islamic banks also face a unique Shariah-compliance risk, because the acceptance of and demand for their products are subject to approval by religious authorities. These risks will always be present in Islamic finance and cause the practice’s risk management needs to differ from conventional finance. Pillars II and III enhance the supervision and transparency through market discipline, respectively, of international banks. Their application to Islamic banks similarly involves difficulties inherent to the Islamic products and services, and difficulties that exist because of their immature status. Supervising Islamic banks requires sufficient expertise in the above risk differences. As some of these risks fade when the industry gains experience and depth, a corresponding portion of need for additional expertise will wane as well. Transparency and market discipline will increase with maturity; nonetheless, sufficient differences between Islamic and conventional banking will persist, and will require the continued existence of a separate Islamic regulatory body.

Islamic Financial Architecture: The Islamic Financial Services Board The Islamic Financial Services Board (IFSB) was established with the support of the IMF in 2002 by central banks and the Islamic Development Bank, and tasked with “the provision of prudential standards and guidelines for international application by banking supervisors in the supervision of Islamic banks.” The IFSB addresses challenges faced by supervisors attempting to apply Basel II regulations to Islamic banks, which manage different assets and consequently different risks than conventional banks. Additionally, Islamic noninterestbearing savings and investment products The existence that resemble collective investment schemes Figure 1: Distribution and assets of Islamic banks by region (2002) do not have conventional counterparts Region Assets (US$ No. of Banks % of Banks % of Assets addressed in Basel II, Million) creating a greater regSouth & Southulatory challenge. The 18 18.56 6765.00 13.05 east Asia rationales for internaGulf Cooperational capital adequacy 42 43.30 38,374.50 74.04 tion Council regulation — mitigation of systemic risk and Other Middle 14 14.43 4806.86 9.27 the social cost of moral East hazard — are salient Africa 9 9.28 NA NA for Islamic banks. The Rest of the calculation of appropri14 14.43 1876.68 3.63 world ate minimum capital requirements presents Total 97 100 51826.04 100 “technical rather than conceptual differences Source: Islamic Banking Information System (IBIS) in Molyneux and Iqbal (2005)

of a separate regulatory framework for Islamic banks does not significantly affect the majority of the international banking system. The members of the Basel Committee are unlikely to see the effects of Islamic regulation in their countries. Similarly, countries with wholly Islamicized systems are unaffected by the existence of conventional regulation. The concern arises for countries with significant Islamic and conventional banking sectors, which must adopt dual regulatory standards to be globally

2011 October - November Global Islamic Finance 65

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Islamic Finance competitive.

Similarities and differences between Islamic and conventional banks Banking activities

Conventional Bank

Islamic Banks

I. Sources of funds Capital and R.E.

Yes

Yes (participating in profit)

Yes

Small

Yes

Investment

foreign

currencies

Yes

Deposits; (fixed interest) Loans and bonds II. Use of Funds Investment in loans Investment in securities securities) Participation in business investment)

III. Services rendered Current accounts

Yes

Credit card

Yes

Yes; no overdraft

Letters of guarantees

Yes

Bills discounted

Yes

Forward rate and arbitrage

Yes

Prearranged profit basis

Yes

Yes (100% down payment)

Yes

Yes with no overdraft

Forward rate and arbitrage

Yes

Underwriting in securities

Yes

Equities

Expected return on capital

Yes

Yes (stockholders)

Expected return on bonds

Yes

Letter of credit Credit cards

instruments IV. Cost of Capital

bonds Expected return on deposits

Source: Sabri and Jaber, 1985 and 1987 in Sabri (2008)

66 Global Islamic Finance

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Bahrain: Between the West and the East The Kingdom of Bahrain established the Bahrain Monetary Agency (BMA) in 1973 as the country’s single monetary financial authority. At the same time, Bahrain undertook decisive action to diversify its economy away from oil by transforming into the dominant financial center in the Gulf. Bahrain’s regulatory framework has allowed it to surpass regional competition from Dubai and Qatar and emerge as the Gulf’s preeminent financial center. Bahrain’s ability to attract conventional finance allows it to compete globally; but to compete regionally, Bahrain played “the Islamic banking card.” In order to be a competitive global financial center in the Arabian Gulf, Bahrain caters to both conventional and Islamic banking institutions, necessitating dual adoption of conventional and Islamic internationally approved regulatory systems. A globally competitive financial sector is essential to Bahrain’s economy. Beginning in the 1970s, the BMA took steps to attract conventional Western banks by maintaining a convertible currency fixed to the U.S. dollar, offering advantages to foreign investors, and most importantly, enforcing a high-quality regulatory environment. Currently, Bahrain has the largest community of international banks and financial institutions in the Gulf, and is the Gulf’s most mature financial center. By 2006, the financial sector represented 25 percent of GDP, surpassing the previously dominant oil sector, which represented 15.5 percent. Bahrain’s status as a global financial center is essential to its survival and is contingent on “the strength of its regulatory framework as a critical success factor and key attraction for institutions operating in the region.” Bahrain must implement the regulatory framework adopted by the conventional banking world. Bahrain recognized the need to establish itself as the center for Islamic banking and finance in order to emerge as the dominant center in the Gulf. It implemented a set of regulations for Islamic banks in early 2000, before the establishment of the IFSB, to cover regulatory issues concerning capital adequacy, asset quality, and liquidity management. These regulations gave Bahrain-based Islamic banks a competitive edge by associating them with the globally respected regulatory authority of the BMA. Currently, Bahrain is home to the largest number of Islamic banks, institutions, industry support organizations, and insurance organizations in the world. Bahrain recognized the importance of an internationally accepted regulatory framework, and was influential in the establishment of the IFSB. Islamic finance is a rapidly growing industry and essential to the future of Bahrain’s financial sector. Bahrain’s unique position as a global financial center and the dominant center in the Gulf necessitates that it regulate both the conventional and Islamic sectors in accordance with their respective internationally accepted regulatory frameworks. Both sectors are growing continually, evidenced by the 38 new financial institutions, six of which were Islamic, licensed in 2007. Bahrain faces the challenge of dual regulation, or deciding which rules, regulations, and supervisory authorities should apply to each system. When only conventional regulatory standards are implemented, Islamic banks claim discrimination; however, when a dual system is implemented, conventional banks claim that the “special treatment” amounts to discrimination as well. The BMA addressed this dilemma by establishing an internal division to regulate Islamic banking, yet the existence of the need for multiple regulatory systems raises concerns for the future of the internationally harmonized system of financial regulations envisioned by the architects of the Basel II agreement.

Islamic Finance Conclusion: A Fragmented Future? International financial regulation is at its core a system of risk management that attempts to identify and quantify risk, and take steps to mitigate risks with the potential to cause systemic failure. Basel II was formulated and implemented because its predecessor was seen as weak and insufficient to effectively fill this role. Similarly, countries with Islamic banking sectors established the IFSB because Basel II alone was insufficient to quantify and manage the risk faced by Islamic institutions. In the past, weakness in the current international regulatory systems has provided the impetus for new systems. Presently, the financial crisis has revealed weakness in the current system, once again providing an impetus for change. The question for policymakers is how to proceed, and whether universal agreement on standards that effectively manage the risk of all international banking institutions can be reached.

systems emerging to manage regionally specific banking risks. The proposed Basel III agreement changes the impact of international regulation on the Islamic regulatory framework, but not as significantly as conventional institutions are impacted. The increase in banks’ capital quality, consistency, and transparency does not affect Islamic banks because the hybrid and Tier III capital that are affected by the changes have not played a significant role in Islamic banks’ capital structures. While the increase in the required level of capital will affect Islamic institutions, the effect will be of the same degree as it is to all other institutions. The newly introduced nonriskbased leverage ratio is irrelevant to Islamic institutions, as they do not use deposit-type investment accounts, but could be of relevance in the future if certain loaning and deposit practices increase. The Basel III efforts to reduce cyclicality could have the opposite effect on Islamic banks and increase pro- cyclicality; thus, it will be likely that Islamic banks will maintain counter-Cyclical buffers under Pillar II.

The Basel II agreement was insufficient to Regarding Basel II’s new liquidity standmanage the risk of the global financial sys- ards, it is unlikely that Islamic banks will be tem partly because it reflects “an out-of-date able to comply due to lack of funding. The view of the balance of power.” It lacks rep- new challenges set out under Basel III are resentation from clearly relevant interna- currently being actively addressed by the tional powers — most strikingly, China. It not IFSB to ensure continued operation under only fails to reflect an accurate balance of globally accepted norms. The new regulafinancial power, it lacks representation from tory framework does not adversely impact culturally, geographically, and ideologically Islamic institutions, but highlights the stark diverse areas of the world that will drive indi- differences between the Islamic and convidual governments’ responses to Basel III Capital Requirement Adoption Timeline the current crisis. Following the 2009 spring G20 summit, global leaders agreed on the need for greater bank capital, greater cushions in good times, curbs on bankers’ pay, and the establishment of an institution to regulate systemically important hedge funds, yet they failed to agree upon the institutions and regulations to accomplish these goals. The variety of opinions, political environments, and specific financial needs raises the possibility of a fragmented future financial architecture, with regional

• • • •

2013

2015

2018

Equity

3.5%

4.5%

Other Tier 1

1.0%

1.5%

Tier 2

3.5%

2.0%

Total Requirement

10.5%

Capital Deductions

40%

100%

Legacy sub debt

90%

70%

40%

Leverage Ratio

Observed

Disclosed

In force

LCR

Observed

In force

NSFR

Observed

In force

Source: Clifford Chance (2010)

John Aglionby, “Islamic Banks urged to show the west the Sharia way forward,” Financial Times, London, March 3, 2009, p. 3. The Qur’an is the holy text of the Muslim religion. Muslims believe the Qur’an is God’s word as revealed to the prophet Muhammad in Mecca (modern-day Saudi Arabia) circa 622 A.D. For a more detailed treatment of riba and gharar in the Qur’an, see Mahmoud El-Gamal, Islamic Finance: Law, Economics, and Practice (New York: Cambridge University Press, 2006), ch. 3. Fouad Al-Salem, “The Size and Scope of the Islamic Finance Industry: An Analysis,” International Journal of Management 25, no. 1 (2008):

• • • •

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ventional systems. Even with adaptations and changes, the Basel framework fails to encompass all large financial institutions. Islamic finance will not provide a “new way forward,” but provides a relevant example of the emergence of a different regulatory system in response to risk created by culturally specific practices. The IFSB has existed successfully alongside the Basel II agreement, yet the very fact that in order to be a global and regional financial center it was necessary for Bahrain to adopt both systems carries a warning for the future of international financial regulation. Bahrain competed with its rivals using the number of regulatory systems offered. If the world as a whole does not establish a new system to manage risk following the crisis, various regional institutions will fill the regulatory void, forcing future global centers to adopt pluralistic regulatory systems to remain competitive. Although the current system’s weakness has been revealed, the rationale for a universal regulatory framework is equally if not more salient in the wake of the crisis. The risk of systemic failure has not abated, nor has the need to mitigate the moral hazard created by the existence of a LOLR, and a fragmented system is unlikely to comprehensively address these palpable dangers.

Policymakers should strongly consider the creation of the IFSB in response to the inadequacy of Basel II to accurately manage the risk of Islamic institutions, realizing that failure to repre2023 sent the current financial balance of power and regional diversity will 7% result in future inadequacies. The 1.5% failure of the Basel III reforms to 2.0% correct this representation imbal10.5% ance suggests that future divergence in the regulatory system 100% is likely. Risk can never be 0% eliminated, but it can be managed, In force and policymakers must seek to In force augment the global financial architecture with a new regulatory In force framework with a wider scope for institutional differentiation.

124–199. Ibrahim Warde, Islamic Finance in the Global Economy (Edinburgh: Edinburgh University Press, 2000), 112–123. Howard Davies and David Green, Global Financial Regulation: The Essential Guide (Malden, MA: Polity Press, 2008), 7–19. The Basel Committee 2004 in Daniel K. Tarullo, Banking on Basel: The Future of InternationalFinancial Regulation (Washington, DC: The Peterson Institute for International Economics, 2008), 28. Davies and Green 2008, 43–45.

2011 October - November Global Islamic Finance 67

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Investment

ISLAMIC FINANCE

AS STRUCTURED PRODUCTS BUSINESS LINE: ACUTE COMPLEXITY AND THE NEED FOR STANDARDIZATION Author: Michael Bennett, Lead Financial Officer, World Bank

The roots of Islamic finance go back more than a thousand years. Based on Islamic law, as derived from the Koran, the Sunnah and many centuries of scholarly interpretations, it is grounded in the principles of economic fairness and the equitable sharing of risks. While other religions also include edicts and prescriptions that are relevant to financial transactions, Islamic finance is the only large scale, global effort to create financial instruments in accordance with religious texts. Keywords: Structured Products, Shariah-Compliant, Islamic Finance, Special Purpose Vehicles

Structured products, on the other hand, are a quintessentially modern and secular area of finance. Based on mathematical modeling and the use of financial derivatives, the guiding principle underlying the structured products market is not economic fairness or equitable risk sharing, but rather the more mundane goal of yield enhancement. The central concept behind structured products is that the yields achievable through combining different assets and risks into a single product can be greater than the sum of the component parts. Although structured products can be created to facilitate ethical investment, structured product technology itself is entirely ethically agnostic. Despite these fundamental differences, Islamic finance and structured products share the similarity of being two of the biggest financial market success stories of the past thirty years. Both areas came of age in the 1980â&#x20AC;&#x2122;s, and have grown exponentially since then. Beginning with the establishment of the first, fully fledged modern day Islamic bank in Dubai in 1975, Islamic finance has grown to encompass every aspect of the financial sector, including commercial 68 Global Islamic Finance

October - November 2012

and investment banking, insurance and capital markets. By some estimates, the total volume of Islamic financial assets has grown 15 to 20% a year since 2000 and now exceeds US$1 trillion. The market for structured products has grown at a similarly rapid rate during the same time period. Since becoming an identifiable asset class in the 1980â&#x20AC;&#x2122;s with the development of financial derivatives, structured products have become a mainstream investment tool for both retail and institutional investors. Although structured products have been associated with some of the most widely publicized financial mishaps during that period, including the collapse or near collapse of Enron, Parmalat, AIG and Bear Stearns, the market for structured products has continued to expand. In addition to sharing a similar growth trajectory, over the past decade these two areas of finance have become inextricably intertwined. The growing demand for Shariah-compliant investments from increasingly wealthy areas of the world has naturally drawn the attention of the large western banks, and in response these banks have all

Investment

developed their Islamic finance capabilities. They have focused much of their attention on developing the fixed income side of the Islamic capital market. The western banks have done so largely by treating Islamic finance as a type of structured product, applying the same skills, and in many cases the same staff, that are used in the structured products field to create Shariah compliant, fixed income instruments. In other words, the large western banks are creating Islamic fixed income securities that are essentially a new type of structured product. Islamic Finance as a Type of Structured Product The combination of the words “Islamic” and “fixed income” may appear to be oxymoronic. Given that interest is prohibited, and that

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risk sharing is encouraged in Islamic finance, an investment instrument that pays a fixed return is inherently problematic under Shariah. However, proponents of Islamic finance have long understood that the existence of fixed income type instruments is critical to the development of a fully functioning capital market. A great deal of effort, therefore, has gone into creating fixed income securities that are Shariah compliant.

Shariah compliant, the product must pay a fixed or floating rate of return without having any portion of that return deemed to represent interest payable on borrowed money. Since all major conventional fixed income products, such as bonds, notes and commercial paper are debt instruments that pay interest, significant structuring is required in order to create equivalent products that are can be deemed to be Shariah compliant.

‘‘Despite these fundamental differences, Islamic finance and structured products share the similarity of being two of the biggest financial market success stories of the past thirty year’’

The structuring used to create products that pay a fixed return that is not characterized as interest involves many of the same techniques that are used in the creation of conventional structured products. These techniques include the use of special purpose vehicles (SPVs), pledges of assets and the manipulation of cash flows to achieve the

To be recognisable as a fixed income investment and, at the same time, be deemed

2011 October - November Global Islamic Finance 69

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Investment

desired characterization of the return on a product. The use of such techniques is often referred to as “financial engineering,” which is the process of creating customized financial instruments.

notes issued by a SPV. An ijarah Sukuk can therefore be considered a kind of repackaging. The payment obligations of one party, in this case the lessee under the ijarah contract, are repackaged into Sukuk certificates issued by a SPV and sold to investors.

For example, with Shariah compliant fixed income products, a SPV is often interposed between the underlying obligor and the investors. The SPV and the obligor (i.e. the party that is responsible for generating the return) enter into a transaction that creates an obligation on the obligor to make periodic payments to the SPV. Such a transaction may take various forms, such as the lease of an asset by the SPV to the obligor in exchange for periodic lease payments or the sale of an asset by the SPV to the obligor in exchange for periodic deferred payments of the purchase price. The SPV in turn uses the payments it receives from the obligor to pay the investors. Because the payments that fund the return on the product relate to a transaction (i.e. a lease or a sale of an asset) and do not represent interest payable on a debt, the product is considered to be Shariah compliant.

MICHAEL BENNETT Michael Bennett is a lead financial officer in the capital markets department of the treasury of the World Bank focused on new product development. He has spent over ten years with the World Bank, splitting his time between the World Bank’s Paris office and its Washington, DC headquarters. Prior to joining the World Bank, he worked in the structured finance field in Tokyo, Hong Kong and New York. He has published articles in various legal and financial journals on topics including the Islamic fixed income market, structured products, Indonesian bank restructuring and the regulation of financial derivatives in Asia. He graduated from Columbia University Law School in New York.

An example of this type of Islamic finance product is a sukuk based on the principle of ijarah. Sukuk is the Islamic finance product that is most similar to a conventional bond. They are certificates that represent a right to receive payments from an underlying asset, transaction or business venture. Sometimes referred to as “Islamic bonds,” Sukuk is the principal fixed income type of product in the Islamic capital market. Ijarah, on the other hand, is a type of transaction that is closely analogous to a conventional lease. Ijarah contracts permit a form of financing that is Shariah compliant but that, in purely economic terms, can be very similar to a loan. Because of the Shariah prohibition on interest, an Islamic bank would not be allowed to make a $100 one year loan to a farmer to buy a hoe and charge the farmer 5% interest. However, the bank could purchase the hoe, lease it to the farmer for one year using an ijarah contract that provides for a $5 lease payment and then require the farmer to buy the hoe for $100 upon the expiration of the lease. Both the loan and the ijarah contract allow the farmer to finance the purchase of a hoe for one year at a total cost of $105, but the latter is Shariah compliant and the former is not. In a typical Sukuk based on the principle of ijarah, a SPV issues the Sukuk certificates to investors and uses the proceeds to purchase a physical asset, such as land or equipment. The SPV then leases that asset to a lessee, and the flow of lease payments from the lessee to the SPV creates the cash flow that is used by the SPV to pay the amounts due on 70 Global Islamic Finance

the Sukuk certificates. On maturity of the Sukuk, the lessee typically purchases the asset from the SPV at a pre-determined price, and the proceeds of that sale are used to re-pay the Sukuk holders their principal investment. Since the cash flows from the lessee fund the returns on the Sukuk, the credit of the lessee underlies the credit of the Sukuk certificates. The elements of a typical ijarah Sukuk are familiar to any structured products professional. Aside from the use of Arabic words, an ijarah Sukuk looks in many ways like a typical repackaged fixed income structured product. Repackaging, which are a staple of the structured products market, involve a SPV issuing notes and using the proceeds of the issue to acquire assets or enter into transactions that generate the payments that are then used to repay the notes. In other words, the payments from an underlying asset or transaction are “repackaged” into

October - November 2012

Structuring an investment instrument in order for the return to be characterized in a specific way is also a familiar goal to structured products professionals. In the conventional market, the goal of such structuring is often tax-related. Products are created specifically so that the return is characterized in a way that entitles it to benefit from the most favorable possible tax treatment. For example, in jurisdictions in which capital gains are taxed at a more favorable tax rate than interest income, products are structured with the goal of having as much of the return as possible characterized as capital gain rather than interest. These kinds of transactions are often referred to as “tax arbitrage.” While tax arbitrage transactions can facilitate legitimate and efficient tax management, they are sometimes criticized as exercises in exploiting loopholes. Structured product professionals closely examine a jurisdiction’s tax laws and regulations in search of ways to create transactions that meet investors’ economic objectives while also maximizing the potential tax benefits and avoiding any tax related prohibitions. The same skills have been applied by structured products professionals in examining the financial prohibitions of the Shariah, resulting in a form of religious arbitrage. There is a significant philosophical difference between arbitraging a tax code and arbitraging religious texts. Although tax authorities are likely to object to a structure that takes advantages of a loophole in the tax code, the morality of such structures is not generally questioned, since even the most zealous tax collector is unlikely to regard the tax code as a sacred text. On the other hand, probing religious laws for what could be considered loopholes is a more morally ambiguous endeavor. Nevertheless, in terms of the skills employed and the techniques used, the practice of tax arbitrage has informed the way structured products professionals approach Islamic finance. Since the creation of Shariah compliant fixed income products requires very similar tools to those used to create structured products, Islamic finance has become a new product line for the structured products professionals at the large western banks. As a result, the Islamic financial products offered by these banks resemble conventional structured products and raise many of the same legal and reputation issues. These issues

Investment stem principally from the complexity and lack of transparency of the products. The Problems that Stem from Structured Product Complexity Structured products are financial instruments with cash flows that depend on the value or performance of underlying assets or embedded derivatives. They are customized financial products that permit parties to meet specific risk-return objectives that cannot be met using only plain vanilla instruments or to hedge exposures that cannot be adequately hedged using only plain vanilla instruments. As such, structured products are more complex than plain vanilla products and are significantly more difficult for investors to understand and to price. The complexity of structured products has attracted a great deal of criticism since the financial crisis that began with the collapse of the sub-prime mortgage market in the United States in 2007. During the financial crisis, there were widespread credit rating downgrades and defaults involving structured products, in particular sub-prime mortgage backed collateralized debt obligations (CDOs). Many commentators identified the complexity of these products as being a significant contributing factor in their demise. Structured products were criticized, for example, in a report on the causes of the financial crisis issued by the government of the United Kingdom, as being “ludicrously complex.” The argument that structured products are dangerously and unnecessarily complex is an exaggeration. To a large degree, the complexity of these products reflects the inherent complexity of the risks and underlying variables that these products now encompass. Often a complex product’s structure is simply a consequence of it having been tailored to meet an investor’s specific investment or hedging needs. In addition, over the past few decades, the structured products market has grown to include products that reference a wide variety of underlying variables, including such exotic factors as inflation rates, commodity prices, mortality statistics, and hedge fund returns. As these variables are complex, products that reference them are complex as well. Moreover, a simple structure does not guarantee that a financial instrument will be a good investment, as plain vanilla products are capable of causing investment losses as great as complex ones. For example, as many investors lost money on the relatively easy to understand plain vanilla equity and bonds of financial institutions that were involved in the sub-prime mortgage business as lost money on complex sub-prime

mortgage backed CDO’s. Although the price of structured products may fall faster and farther than many plain vanilla products, in general, in rapidly declining markets, financial products suffer losses, regardless of their complexity or structure. Therefore, the demonization of the complexity of structured products that occurred in the wake of the financial crisis was excessive. However, complex financial products do create certain unique problems for investors. For example, it may be difficult for investors to understand the nature and extent of the risks that they are taking when they purchase a complex product. In particular, it is difficult, if not impossible, for many investors to evaluate whether the price of a structured product is fair. Because most structured products include embedded derivatives, investors need to have a sophisticated understanding of derivatives pricing in order to evaluate the price of a structured product. Complex products also tend to be relatively illiquid. Liquidity is a measure of the ability to sell a financial instrument with minimal price disturbance. Structured products are generally illiquid for two reasons. First, the number of investors interested in any particular structure is limited, meaning that the number of potential buyers of a structured product is very small relative to the market as a whole. Second, the lack of pricing transparency discourages the development of a liquid secondary market, because price negotiations for each sale are often lengthy and contentious. Without a liquid secondary market, investors who want to sell a structured product prior to maturity usually must sell it back to the bank that originally distributed it. Although a bank has no formal obligation to make a market in all of the products it has sold, it will generally provide a quote to its customers. The bank will have great flexibility, however, in determining that quote since the pricing methodology is generally not transparent to the investor, and it will not face any competition from other bidders. In addition, if a complex product needs to be redeemed prior to maturity, for example in the event of a default on an underlying asset, unwinding the product can be extremely difficult. In many cases the underlying asset is itself illiquid, making it difficult to sell the asset in order to fund early redemption of the product. The underlying asset may also be subject to claims by multiple parties. To understand how an underlying asset can be subject to multiple claims, consider the hypothetical example of a repackaging of a

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U.S. dollar denominated loan into a Japanese yen denominated structured note that is sold to investors in Japan. The SPV that issues the note will enter into a U.S. dollar/ Japanese yen foreign exchange swap transaction and will use the proceeds of the note issuance, after converting it from Japanese yen to U.S. dollars, to purchase the loan. Under the terms of the swap transaction, the SPV will exchange the U.S. dollar payments it receives under the loan for Japanese yen and it will use those Japanese yen amounts to make the payments due on the note. In such a case, the loan is the only asset held by the SPV. Therefore, in the event of a default on the loan that causes an early redemption of the note, two different parties will be looking to the loan to satisfy their respective claims, the swap counterparty, to pay any amounts due from the SPV under the swap transaction, and the investors, to satisfy their claim under the structured note. Resolving such conflicting claims adds to the difficulty of unwinding structured products. Complexity also creates costs. Although one of the goals of structured products is to use financial engineering to generate economic efficiencies, the engineering often involves significant transaction costs. The costs of setting up and maintaining SPVs, for example, must be borne by every transaction that makes use of one. The costs generally include hiring a local law firm and administration company in the jurisdiction where the SPV is established. Depending on the nature of the transaction, the SPV also may need to employ an auditing firm to prepare audited financial accounts, which creates a recurring expense for each accounting period. In addition, many structured products require lengthy documentation, meaning that legal costs associated with creating the products are often high as well. Finally, complexity can accelerate price declines during market downturns. Few investors are willing to read through the extensive legal documentation that underlies most complex products, let alone test all of the underlying assumptions. Instead, the structured products market relies heavily on trust, whether that is trust in the credit ratings agency that has rated a product or trust in the professional knowledge and ability of the bank that has created a structure. During times of market distress, such as during the recent financial crisis, such trust tends to evaporate quickly. In a market where prices are falling rapidly, the opaqueness of structures that was previously tolerated begins to be seen as a significant weakness, often resulting in sharp sell-offs of structured products.

2011 October - November Global Islamic Finance 71

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Investment

Therefore, while complexity is not, as some commentators and politicians have alleged, the root of all financial evil, the complex nature of structured products does cause certain problems. These problems are not entirely unique to structured products. Some plain vanilla products are illiquid, for example, and some investment funds incur heavy transaction costs. However, these problems are all exacerbated by complexity. Additional Problems Posed by the Complexity of Shariah Compliant Products Because the same financial engineering techniques used to create structured products have been applied to create Shariah compliant fixed income products, these products suffer from the same problems observed in the structured products market. The risks of the products are often non-transparent, they are difficult, if not impossible, for many investors to price, largely illiquid, extremely tricky to unwind and often burdened by very high transaction costs. These problems have impeded the development of the fixed income side of the Islamic capital market. The complexity of Islamic fixed income products also creates difficulties because of the requirement in Islamic finance that every product must be certified as Shariah compliant by a board of Islamic scholars. Given the very limited number of scholars who are experts in both Islamic law and complex financial structures, the certifi c a t i o n process can become a bottleneck t h a t c o n strains

In addition, Islamic finance lacks a system of mutual recognition among Shariah scholars, creating the risk that products that are approved as Shariah complaint by some scholars will be turned down by others. In general, the more complex the product, the greater the risk there will be a divergence of opinion among scholars, and consequently the greater the risk that fragmented markets will develop where products are acceptable to some investors but not to others. Any such fragmentation will exacerbate market illiquidity since it will restrict the potential pool of buyers for any particular product. Moreover, a certification of Shariah compliance does not mitigate any of the other problems caused by product complexity. The certification only signifies that the structure of the product meets the requirement imposed by Islamic law. It does not imply anything about how the product is priced, how it will perform as an investment or how it might be able to be unwound. Since Shariah is fundamentally a system of religious laws and ethics, some investors might assume that the same ethics will guide the way that Shariah complaint financial products are priced and traded. However, such an assumption may prove to be incorrect. A bushel of apples is a Shariah compliant product, but it may be sold in a nontransparent, or even deceptive, manner. In the same way, Shariah compliant financial products do not come with any sort of guarantee that they will be priced and traded fairly or that, in unwinding such products, parties with competing claims on the underlying assets will always act according to the highest ethical standards. The problems posed by the complexity of Shariah compliant products are further compounded by the lack of plain vanilla alternatives in the Islamic fixed income market. Products must all be structured around a n

the ability of banks to get new products approved in a timely way.

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underlying transaction in order to generate payment flows that are not deemed to represent interest. As a result, all Islamic financial products that provide fixed income type returns are structured products. With conventional financial products, fixed income investors may choose the level of complexity they are willing to accept in the instruments they buy. If they are uncomfortable with complex products, they can invest in only plain vanilla instruments or alternatively allocate just a small portion of their portfolios to structured products. However, Islamic fixed income investors are not afforded such a choice. Investors who want to purchase only Shariah compliant fixed income type instruments are required, by the nature of these instruments, to have portfolios composed entirely of relatively complex products. Almost no conventional fixed income investor would hold such a portfolio. The structured nature of all Islamic fixed income products also makes it difficult for dealers that sell these products to meet their investor suitability obligations. “Investor suitability” is the term used in the financial services industry to describe the obligation of licensed securities dealers to only recommend to their clients investment products that are suitable for those clients in light of their financial knowledge, investment objectives and means. Although the precise nature of the investor suitability obligations on dealers varies by jurisdiction, some obligation of this type exists in most major securities markets. For example, Malaysia, the largest jurisdiction for Islamic fixed income issuance, imposes an obligation on licensed dealers to ensure the suitability of their advice to clients, including requiring dealers to make a determination that clients have the necessary knowledge or experience to understand the risks of products they recommend. In the conventional fixed income markets, a dealer can determine a client’s relative level of sophistication and make recommendations to that client accordingly. If the dealer determines, for example, that a client does not have the financial knowledge needed to evaluate the risks of structured products, the dealer can choose to recommend only plain vanilla investments. For clients who wish to invest entirely in Shariah-compliant products, however, a dealer’s ability to tailor investment recommendations to match the client’s financial acumen is very constrained. Regardless of the client’s knowledge level, the dealer will have to make recommendations from a limited pool of Shariah compliant products that

Investment are all relatively complex. If a client does not have the requisite knowledge or experience to understand Shariah compliant structures, the dealer would be breaching the investor suitability obligation with every recommendation. Another consequence of the fact that all Islamic fixed income products are structured products is the lack of effective benchmark instruments. In conventional fixed income markets, benchmark issues play an important role in providing a standard against which the price and performance of other issues can be measured. To serve as an effective benchmark, an issue needs to be highly liquid so that on any day its current market value can be readily and objectively determined based on actual transactions in the market. In addition, in order for it to serve as a clear point of comparison, it should be a plain vanilla issue. Structured products are usually illiquid and cannot be easily compared to other issues since few would share precisely the same structure. For marketing purposes, several large Sukuk issues have been labeled as benchmarks. However, compared with conventional benchmark bonds, these issues all fall short of deserving the benchmark designation. Although in terms of size they resemble conventional benchmark bonds, they are highly structured issues, meaning it is unlikely that other issues will be directly comparable. In 2006, for example, the Dubai property company Nakheel issued a $3.52 billion Sukuk that was considered a benchmark transaction for the Sukuk market. The Nakheel Sukuk, however, involved an extremely complicated structure. It was based on the principle of ijarah, but included a complex web of underlying co-obligors and co-guarantors and an equity conversion feature. In conventional fixed income markets, an issue of this type would be classified as a highly complex structured note, albeit a very large one, rather than as a benchmark bond. With few usable price comparators, investors must research and determine an appropriate price for each issue. This research can be a time consuming since each issue is structured around a unique underlying transaction. Moreover, tracking the performance of benchmark issues is the main portfolio performance tool used by conventional investors. Without such benchmarks, it is difficult for investors to evaluate the performance of their portfolios relative to the market as a whole. As a result, the entry barriers to new investors coming into the Islamic fixed income market are high.

The lack of benchmarks also discourages potential new institutions from deciding to fund themselves in the Islamic fixed income market since, without easy to identify and liquid comparators, it is difficult for them to determine the correct level to price their credit. The reluctance of new institutions to fund in the market in turn impairs the liquidity of the market, since a dearth of supply of new issues means that investors are less willing to trade existing issues. They assume a “buy and hold” attitude and are reluctant to sell any instruments in their portfolios since they have no assurance they will be able to find new instruments to replace them. Given these problems, and viewed from a purely economic perspective, the Islamic fixed income products created by the large western banks could be considered a uniquely problematic form of structured products. They are created using the same financial engineering techniques as conventional structured products and, as a result, they suffer from the same problems, such as opaqueness and illiquidity. However, they also are afflicted with an additional and idiosyncratic set of problems because of the need for Shariah certification and the fact that there are no plain vanilla alternatives in the market. Such a perspective ignores the religious significance of Islamic fixed income products. These products are designed specifically to meet both the religious and economic objectives of investors that want instruments that generate a fixed income type of return without having the return deemed to represent interest or otherwise to be incompatible with Shariah. For these investors, the complexity of the products, and the problems that arise from it, may simply be seen as necessary and unavoidable consequences of investing in instruments that conform to their religious beliefs. In addition, a capital market that includes no plain vanilla instruments does offer one inherent benefit. In conventional fixed income markets, which have both structured and plain vanilla alternatives, market downturns frequently cause investors to flee structured products and seek out the relative simplicity and comfort of plain vanilla instruments. This phenomenon may cause the prices of structured products to fall even more quickly than other types of instruments during periods of market distress, because the supply side of the market surges while the demand side collapses. In the Islamic fixed income market, however, investors cannot easily flee complex products, because there are no

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simple alternatives they can turn to instead. As a result, the Islamic fixed income market may be structurally less prone to rapid selloffs and sharp price falls than the conventional structured products market. This hypothesis is consistent with how the Islamic fixed income market reacted during the financial crisis. Although there were defaults on a number of Sukuk and new issuance of Sukuk fell sharply for a period of a time in several important Gulf countries, the market generally held up better than many conventional structured product markets. Conclusion: The Need for Standardization During the last decade, the large western banks have been attracted to the significant profit opportunities that exist in Islamic finance. The attraction stems largely from high oil prices and the massive outflow of “petrodollars” from the Arabian Gulf countries. However, even if global petroleum prices were to decline, the interest of western banks in Islamic finance is unlikely to wane. Considering the growing economies of many predominantly Muslim countries, as well as their youthful demographic make-ups, the future growth potential of the market for financial products that comply with Shariah is obvious and substantial. The western banks have focused much of their attention on developing the fixed income side of the Islamic capital markets, because it is where they have a competitive advantage. Other areas, such as consumer banking, are denominated in most Muslim majority countries by domestic Islamic institutions that have larger local customer bases. Where the western banks have a significant advantage relative to local Islamic institutions is in their skill at financial engineering and innovation, which is the reason for their focus on the fixed income market. Given the Shariah prohibition against all interestbearing securities, the fixed income market is seen as the area in Islamic finance that is most in need of innovation. The approach the western banks take to the market is to apply structured products knowledge and techniques to create Shariah compliant equivalents of conventional fixed income products. In other words, for every conventional instrument, the banks seek to structure an Islamic analogue that provides the same risk profile and economic return, but in a form that is consistent with Shariah. This approach is crudely comparable to the “tofu hamburger” approach to vegetarianism, which is based around creating vegetarian versions of popular meat dishes. The philosophical starting point for the large western banks is that all investors

2011 October - November Global Islamic Finance 73

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Investment

need conventional instruments, but since Shariah compliant investors cannot have them, the banks will provide them with the closest possible Islamic variant. A significant problem with this approach is that it leads to very high levels of complexity. The Shariah compliant analogue of a conventional fixed income instrument is always more complex than the original. Moreover, in many cases, investors use certain conventional fixed income instruments specifically because they are simple and highly liquid. A structured version of such an instrument may have very little practical value. Through the application of enough imagination and financial engineering, structured products professionals may be able to replicate almost every existing fixed income instrument in a Shariah compliant form. However, that may not be a useful goal.

will achieve truly universal acceptance. Moreover, Islamic jurisprudence gives only limited importance to precedent. There is no assurance, therefore, that products that have been approved by a majority of Shariah scholars today will continue to be approved in the future. In 2007, for example, leading Shariah scholar, Sheikh Muhammad Taqi Usmani, circulated a paper in which he argued that the majority of outstanding Sukuk in the market were not actually in compliance with Shariah. Because of Sheikh Usmani’s high standing in the Islamic finance community, his paper had the effect of putting into doubt the permissibility of the structures behind most of the Islamic fixed income market at that time. The precedent created by other scholars who had previously certified the structures as being Shariah compliant did not prevent Sheikh Usmani from taking a contradictory position.

„

Despite these fundamental differences, Islamic finance and structured products share the similarity of being two of the biggest financial market success stories of the past thirty year

The result would be an Islamic fixed income market that in some sense perfectly replicates the conventional market, but is many times more complex. Because of the problems discussed in this article that come with complexity, such an Islamic fixed income market would be a more opaque, illiquid and inefficient version of its conventional market archetype. A better solution to building the fixed income side of the Islamic capital markets is to focus on simplification and standardization. A small number of standardized products will better serve the interests of most Islamic investors than a larger, but more complex, set of products that approximate the full range of conventional instruments. At least in the near term, creating such standardized products should be the principal goal of banks interested in developing the Islamic fixed income market. Standardization of Islamic fixed income instruments is difficult, because of the lack of uniform interpretations among Shariah advisors and among jurisdictions. While a diversity of opinion among scholars can facilitate growth and the development of innovative new products, such diversity inhibits standardisation. Given there is no systematic way to obtain consensus among Shariah scholars, it is unlikely any fixed income product 74 Global Islamic Finance

Nonetheless, a number of efforts are underway to create relatively simple and standardized products. These efforts are led in part by the principal standard setting bodies in Islamic finance, including the Accounting and Auditing Organization for Islamic Financial Institutions (AAOIFI) and the Islamic Financial Services Board (IFSB). The IFSB, for example, has led the work to create a standardized liquidity instrument for Islamic financial institutions, the lack of which has posed a serious limitation on the ability of these institutions to manage their assets and liabilities efficiently. Although greater standardization is unlikely to eliminate entirely the need for individual products to receive a Shariah certification, it should provide greater ex-ante certainty and lessen the time and effort needed for the certification process. In order for the large western banks to participate fully in the standardization and simplification process, they will need to take Islamic fixed income out of the structured products area and make it a more mainstream part of their business. The structured products business model is based around continuous innovation and large profit margins. Although the opaqueness of complex products leads to the problems discussed in this article, it is also a source of the profit margins

October - November 2012

earned by structured products teams. Since structured products are difficult for investors to price, it is also difficult for investors to know how much profit margin the banks are making from the sale of these products. As a result, standardization is not generally in the interest of a bank’s structured products team. As products become more standardized, profit margins usually decline, often substantially. For the bank as a whole, such a reduction in profit margins may be more than offset by the higher revenues that come with the increased trading of standardized products as opposed to complex ones. However, this increased revenue will accrue to the trading desks and not to the structured products team. Therefore, moving to more simplified and standardized Islamic fixed income products will require a change in mindset at the large western banks. Rather than continuing to treat this area as a high margin, structured products business line, they need to look at Islamic fixed income as a potential source of steady revenue from trading a smaller set of relatively simple products. In the conventional fixed income market, there are precedents for new instruments developing first as structured products and over time being standardized and mainstreamed. Credit default swaps (“CDS”), for example, came into existence in the 1990’s as a type of structured product. Over the past decade, they have become increasingly standardized, and most large western banks have begun to treat CDS as a commodity product that is priced and traded by their mainstream credit trading desks. Although the increasing commoditization of CDS has driven down profit margins, it has also helped propelled an increase in trading volumes. Creating more commodity type Islamic fixed income products should lead to similar results. Islamic finance is one of the boldest and most successful financial innovations of the last thirty years. Innovation has driven its growth, particularly with respect to the development of the Islamic fixed income market. However, as the large western banks have entered the market, the focus of much of the innovation has been on creating ever more complex replications of conventional instruments. This sort of innovation should no longer be a priority. Rather, what the market needs now to sustain its growth is a more standardised set of relatively simple products. Although such a shift in emphasis from innovation to commoditization may make Islamic finance less attractive as a structured products business line, it should make it more attractive as an investment tool for millions of Islamic investors.

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ETHICA BRINGS Global Islamic Finance Certification to Bangladesh It has been reported that With three times the population of all the Gulf countries combined, Bangladesh is the sleeping giant of the Islamic finance world. A burgeoning urban middle class, an active microfinance sector, and strong support from regulators gives Islamic finance an historic opportunity to shine in this country. And with only an estimated 14,000 bankers currently serving the Islamic finance sector, the demand for a locally-available, globally-recognized certification is now at its highest. Enter Ethica Institute of Islamic Finance. Now in 44 countries, the Dubai-based institute is the most heavily enrolled Islamic finance certification institute in the world with over 20,000 paying users in more than 100 institutions. What makes the Ethica launch in Bangladesh especially significant is that their training and certification platform is fully AAOIFI-compliant and accessible from any corner of Bangladesh online, requiring

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only 4 months to go from newcomer to advanced. So whether training Grameen’s microfinance specialists in remote villages, or the entire staff of a bank such as Ethica did at Mashreq Bank in Dubai with 1,000 bankers, the training is ideally suited to a country with a vast network of remote branches. Last month Ethica launched subsidized pricing for developing countries, so Bangladesh residents now pay half the standard rate. Yousuf Sultan, Managing Director at Aljadeed, Ethica’s licensed reseller in Bangladesh, said, “Ethica helps fill the gap in Bangladesh for highly trained and globally certified professionals. We now rapidly train the existing generation of bankers and also address growing demand from new professionals.” Aljadeed Islamic Consultancy Services is an independent advisory body consisting of Islamic finance scholars and banking experts. Based on AAOIFI Shariah standards, Aljadeed’s advisory services address the gap in the Bangladesh market for bank advisory and training. Yousuf Sultan, Managing Director at Aljadeed, leads the team having previously been a major TV personality for his knowledge of Islamic jurisprudence and an Islamic finance teacher at Darul Uloom. Aljadeed is licensed to distribute Ethica’s training within Bangladesh using Ethica’s award-winning online platform. gif

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Book

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Islamic Branding and Marketing: Creating a Global Islamic Business

Islamic Branding and Marketing: Creating A Global Islamic Business provides a complete guide to building brands in the largest consumer market in the world. The global Muslim market is now approximately 23 percent of the world′s population, and is projected to grow by about 35 percent in the next 20 years. If current trends continue, there are expected to be 2.2 billion Muslims in 2030 that will make up 26.4 percent of the world′s total projected population of 8.3 billion.

Nestlé Unilever Al Rajhi Bank Fulla Sarawak This groundbreaking book includes an Executive Summary of Proceedings of the Inaugural Oxford Global Islamic Branding and Marketing Forum at the Saïd Business School, University of Oxford. Whether you are in control of an established company, starting up a new one, or have responsibility for a brand within an Islamic country looking for growth, Islamic Branding and Marketing is an indispensable resource that will help you to build, improve and secure brand equity and value for your company.

Understanding Islamic Banking: The Value Proposition That Transcends Cultures

As companies currently compete for the markets of China and India, few have realized the global Muslim market represents potentially larger opportunities. Author Paul Temporal explains how to develop and manage brands and businesses for the fast–growing Muslim market through sophisticated strategies that will ensure sustainable value, and addresses issues such as: How is the global Muslim market structured? What opportunities are there in Islamic brand categories, including the digital world? What strategies should non–Muslim companies adopt in Muslim countries? More than 30 case studies illustrate practical applications of the topics covered, including Brunei Halal Brand, Godiva Chocolatier, Johor Corporations, Nestle, Unilever, Fulla, Muxlim Inc, and more. Whether you are in control of an established company, starting up a new one, or have responsibility for a brand within an Islamic country looking for growth, Islamic Branding and Marketing is an indispensable resource that will help build, improve and secure brand equity and value for your company.

From the Inside Flap Islamic Branding and Marketing: Creating a Global Islamic Business provides a complete guide to building brands in the largest consumer market in the world. The global Muslim market is now approximately 23 percent of the world′s population and is projected to grow by about 35 percent in the next 20 years. If current trends continue, there are expected to be 2.2 billion Muslims in 2030 that will make up 26.4 percent of the world′s total projected population of 8.3 billion. As companies currently compete for the markets of China and India, few have realized that the global Muslim market represents potentially larger opportunities. Paul Temporal, a world–renowned brand expert, explains how to develop and manage brands and businesses for the fast growing Muslim market through sophisticated strategies that will ensure sustainable value, and addresses such issues as: What is Islamic branding and marketing? How is the global Muslim market structured? How can Islamic values add strength to branding in Muslim markets? What opportunities are there in Islamic brand categories, including the digital world? What challenges do companies face in building brands for Muslim markets? What strategies should non–Muslim companies adopt in Muslim markets? More than 30 case studies illustrate practical applications of the topics covered. These include: Brunei Halal Brand Muxlim Inc. Yildiz Holding emel Zain Godiva Chocolatier Dubai Aluminium Johor Corporation Ummah Foods 78 Global Islamic Finance

October - November 2012

Understanding Islamic Banking looks at the fundementals of Islamic banking to compare similarities and contrast the differences between conventional banking and the needs of Muslim finance. The book is designed for three types of readers: banking customers who want to know more abour Islamic finance, banking professionals in Islamic banks that are looking across the industry for best practice ideas and innovations, and senior managers that need actionable strategies to deliver on shareholder expectations. This books looks at the value proposition for Islamic banking through the eyes of customers, bankers and strategists. From the Publisher This book is the first in the Diversity in Global Banking Series, where competitive issues that today banks face in a global enviroment are examined by industry experts to provide strategic insight. The series is designed for banking and financial services practioners to gain insight on new banking models, strategic intiatives and innovations in a context where ideas can be taken and moved into action. From the Author This book is based on many of my encounters as a strategy consultant with banks in the Middle East, Africa and the Asia. In Understanding Islamic Banking, the main thesis is to examine the fundemental elements of how banks working in many cases under adverse conditions, manage to generate significant value for their customers. From the Inside Flap Are non-Muslim customers ready for Islamic financing? Joseph A. DiVanna examines how the underlying principles of Islamic banking provide a framework for contemporary retail banks to enable investors of faith to develop a sense of higher purpose. The essentials of a bank’s value proposition, such as brand identity, innovation investment strategy and generation of investor value, are attributes readily identifiable by Muslims and non-Muslims.

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www.pagroupltd.co.uk 2011 January Global Islamic Finance

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Event

Event Calendar

October

November

December

6th WIEF Roundtable 2012 Event Venue: London, UK Event Date: 3rd October 2012

Islamic Banking Summit: Africa

IFN Roadshow 2012 Brunei

Event Venue: Djibouti Palace Kempinski, Djibouti Event Date: 6th - 7th November 2012

Event Date: 3rd December 2012

Alpha Asia 2012 4th World Islamic Retail Banking Conference Event Venue: Habtoor Grand Beach Resort & Spa, Dubai, UAE Event Date: 9th - 10th October 2012 Middle East Takaful Forum Event Venue: Gulf Hotel, Kingdom of Bahrain Event Date: 17th â&#x20AC;&#x201C; 18th October 2012 The SME Africa 2012 Event Venue: Johannesburg, South Africa Event Date: 17th â&#x20AC;&#x201C; 18th October 2012

IFN Europe Forum 2012 Event Venue: One Bishops Square, London Event Date: 30th - 31st October 2012

IFN Saudi Arabia Forum 2012

Event Venue: Four Seasons Hotel, Riyadh at Kingdom Centre Event Date: 12th - 13th November 2012

IFN Roadshow 2012 Bangladesh Event Date: 20th November 2012

IFN Roadshow 2012 Thailand Event Date: 23rd November 2012

International Islamic Accounting and Finance Conference 2012 Event Venue: Hotel Istana, Kuala Lumpur Event Date: 20th- 21st November 2012

Event Venue: Resorts World Sentosa, Singapore Event Date: 3rd December 2012

AAOIFI World Bank Annual Conference on Islamic Banking and Finance Event Venue: Manama, Bahrain Event Date: 3rd- 4th December 201

8th World Islamic Economic Forum 2012 Event Venue: Johor Bahru, Malaysia Event Date: 4th- 6th December 2012

IFN Roadshow 2012 Turkey

Event Date: 6th December 2012

2012 International Real Estate Finance (IREF) Summit Event Venue: Jumeirah Carlton Hotel, London, UK Event Date: 27th- 28th November 2012

Global Islamic Microfinance Forum Event Venue: Dubai, UAE Event Date: 8th- 10th December 2012

World Islamic Banking Conference

Event Venue: Bahrain Event Date: 9th, 10th & 11th December 2012

For more information and full events details, please visit www.globalislamicfinancemagazine.com/events

Glossary Business Directory

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Business Directory Banks European Islamic Investment Bank

Arab Banking Corporation

Bank of London and Middle East

Contact person/ department: Keith McLeod Address: European Office 131 Finsbury Pavement London EC2A 1NT England Telephone: +44 20 78479900 Fax: +44 20 78479901 E-mail: reception@eiib.co.uk Website: www.eiib.co.uk

Contact person/ department: Nadia Mehdid Address: Station House, Station Court, Rawtenstall Rossendale BB4 6AJ, UK Telephone: +44 1706237900 Fax: +44 1706237909 E-mail: nadia.mehdid@arabbanking.com Website: www.arabbanking.co

Contact person/ department: Michelle Arnold Address: Sherborne House 119 Cannon Street London, EC4N 5AT United Kingdom Telephone: +44 20 7618 0000 Fax: +44 20 7618 0001 E-mail: Michelle.Arnold@blme.com Website: www.blme.com

Description: EIIB seeks to service a market for Sharia’a compliant investment banking services in Europe, the Middle East and Asia that it believes has been under-exploited by conventional and Islamic banks, and by non-banking institutions. EIIB intends to become a major participant in the market for Islamic securities, treasury and investment products, which is currently experiencing rapid growth.

Description: Arab Banking Corporation, popularly known as ABC, is an international Universal bank headquartered in Manama, Kingdom of Bahrain. Our network spreads over 21 countries in the MENA and GCC, Europe, the Americas and Asia. ABC is a leading regional bank in Trade Finance & Forfaiting, Treasury, Project & Structured Finance, Syndications, Corporate & Institutional Banking as well as Islamic Banking. We also provide Retail Banking services in the MENA region

Description: Bank of London and The Middle East plc (BLME) is a fully Sharia’a compliant wholesale bank in the heart of the City of London. BLME is managed by a quality team bringing together a combination of highly experienced international financiers and leading experts in Islamic finance. The majority of our Corporate Banking client base is located mainly in the UK, US and Europe.

ABN AMRO Bank N.V.

Dubai Islamic Bank PSJ

Al Baraka Islamic Investment Bank

(ABN AMRO Bank N.V. is an authorised agent of The Royal Bank of Scotland plc.) Contact person: Abbas Yousafzai - Head of Islamic Banking Address: Khalid Bin Waleed Road, PO Box 2567, Dubai, UAE Telephone: +971 4 506 2260 Fax: +971 4 506 2028 E-mail: Abbas.Yousafzai@rbs.com Website: www.rbsbank.ae

Address: P.O.Box 1080 Dubai United Arab Emirates Telephone: + 9714 2953000 Fax: +971 4 295 411 E-mail: contactus@alislami.co.ae Website: www.alislami.ae/en/

Al Baraka Tower , P.O. Box 1882 Manama , Bahrain Telephone: + 973 250 363 Fax: + 973 274 364 E-mail: baraka@batelco.com.bh Website: www.albaraka.com

Description: RBS within its Retail Banking Unit offers its clients competitive Islamic Banking Solutions. They have one of the largest options for Islamic Wealth Management Products and are also a distributor of the Takaful Product developed by Aman (Dubai Islamic Insurance & Re-Insurance Company). They are presently engaged in launching a full Retail Banking proposition with a Shariah Based Credit Card and Liability Accounts in 2010.

Description: Dubai Islamic Bank has the unique distinction of being the world’s first fully-fledged Islamic bank, a pioneering institution that has combined the best of traditional Islamic values with the technology and innovation that characterise the best of modern banking. Since its formation in 1975, Dubai Islamic Bank has established itself as the undisputed leader in its field, setting the standards for others to follow as the trend towards Islamic banking gathers momentum in the Arab world and internationally.

Description: Al Baraka Banking Group offers retail, corporate and investment banking and treasury services strictly in accordance with the principles of the Shari’a. The authorized capital of ABG is US$1.5 billion, while the total equity amounts to about US$1.52 billion. The Group has a wide geographical presence in the form of banking Units and representative offices in twelve countries, which in turn provide their services through 300 branches.

Accountancy firms Abbas Accounting

Baker Tilly MKM

HLB HAMT Chartered Accountants

Address: ABBAS ACCOUNTING P.O.Box : 78142 Dubai, U.A.E Telephone: +971 4 2820300 Fax: +971 4 2820322 E-mail: info@abbasaccounting.com Website: www.abbasaccounting.com

Address: Epico “Safar” Building Liwa Street Abu Dhabi United Arab Emirates Telephone: +97 1506226719 Fax: +971 26226088 E-mail: sumchart@eim.ae Website: www.bakertillymkm.com

Address: 106, Al Nayali Building Abuhail Road, P.O. Box: 32665 Dubai - United Arab Emirates Telephone: +97142627147 Fax: +971 4 2627148 E-mail: dubai@hlbhamt.com Website: www.hlbhamt.com/

Description: sad Abbas & Co is an audit and accounting consultancy firm in Dubai, United Arab Emirates. Services rendered by the firm include statutory, external and internal audit, accounting and financial management consultancy, accounting and finance outsourcing, project evaluation, feasibility studies and allied services. The firm is led by a team of qualified and widely experienced professionals dedicated to practice of the profession in the highest standards and committed to providing the best services to the clients.

Morison Menon

BDO International

Address: 204 Tower- A, Gulf Towers, Oud Metha, P. O. Box 55535, Dubai, UAE Telephone: +971 4 33 66 990 Fax: +971 4 33 66 992 E-mail: dubai@morisonmenon.com Website: www.morisonmenon.com/

Address: BDO - London 55 Baker Street London W1U 7EU Telephone: +44 207 486 5888 Fax: +44 0207 487 3686 E-mail: j.polin@bdo.co.uk Website: www.bdo.uk.com/

Description: Morison Menon Group is a group of firms offering professional advisory services in Financial Audit, Compliance and Accounting, Consulting (Business Plan, Company setup and business incorporation, Financial Consulting, Property Consulting, HR Solutions, BPO, IT and Web Solutions) since the year 1994. Headquartered in Dubai,UAE armed with a license to operate in DIFC, Dubai. The group has offices in Abu Dhabi, Jebel Ali, Sharjah and Ras Al Khaimah apart from overseas operations in Oman, Qatar, Bahrain, Iran and India. Morison Menon currently is a team of over 150 Professionals.

82 Global Islamic Finance

Description: We offer a wide range of service including auditing, accounting, consultancy, financial-management, profit-enhancement, feasibility studies, company-secretarial, offshore-company registration, and trademark-registration. You will receive a prompt response to every question or request. We serve our clients as a partner in order to help them make the best possible decisions for their business.

October - November 2012

Description: BDO is an award-winning, UK Member Firm of BDO International, the world’s fifth largest accountancy network with more than 1,000 offices in over 100 countries, including affiliates. We specialise in helping businesses, whether start-ups or multinationals, to achieve their goals. Through our own professional expertise and by working directly with organisations, we’ve developed a robust understanding of the factors that govern business growth. Our objective is to use this to help our clients maximise their potential.

Description: We have a full range of accounts and audit services to meet your business needs. A professional firm with regional focus and having global representation, HLB Hamt, Chartered Public Accountants spectrum of services cover all aspects of doing business in the UAE and the GCC countries. While based in the UAE, we offer comprehensive services for doing business in the Middle East including all the Free Trade Zones, right from company formation.

Barber Harrison and Platt Address: 2 Rutland Park Sheffield S10 2PD Telephone: +44 114 266 7171 Fax: +44 114 2669846 E-mail: info@bhp.co.uk Website: www.bhp.co.uk Description: Barber Harrison & Platt is committed to building professional relationships founded on the personal responsibility of a partner for a client’s affairs. As a Top 60 firm and the largest independent firm of chartered accountants in South Yorkshire and Derbyshire our continued success owes much to our dynamic approach and ability to fulfil client demands. This requires the highest level of commitment and performance. Barber Harrison & Platt provide advice to plc’s, private companies, partnerships, sole traders, individuals and trusts. The close working relationship we enjoy with clients provides a deep insight into a far wider range of business situations and problems than are traditionally associated with accountancy.

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Law firms Norton Rose (Middle East) LLP Contact person/department: Neil D. Miller, Partner Address: 4th Floor, Gate Precinct Building 3, Dubai International Financial Centre, Dubai, UAE PO Box 103747 Telephone: +971 (0)4 369 6300 Fax: +971 (0)4 369 6350 Email: neil.d.miller@nortonrose.com Website: www.nortonrose.com Description: We offer a full business law service and work in teams that cut across national and jurisdictional boundaries. In everything we work on, we provide expert advice, innovation and a commercial outlook. Our practice areas cover banking and Islamic finance, construction, corporate finance, dispute resolution, PPP, project finance, real estate

Allen & Overy Contact person/ department: Michael Duncan Address: Bishops Square Allen & Overy LLP One Bishops Square London E1 6AD United Kingdom Telephone: +44 20 3088 4197 E-mail: michael.duncan@allenovery.com Website: www.allenovery.com Description: Allen & Overy is one of a small group of truly international and integrated law firms with approximately 5,000 staff, including over 450 partners, working in 31 major centres worldwide. Allen & Overy also operates in regions where we do not have an office via our network of International Desks.

Lawrence Graham LLP (LG) Contact person/ department: James Foster, head of LG’s Dubai office Address: PO Box 33090 8th Floor Convention Tower Zabeel Road Dubai, UAE Telephone: +971 4 329 2420 Fax: +971 4 329 2430 E-mail: dubaioffice@lg-legal.com Website: www.lg-legal.com Description: LG is a firm of business lawyers, advising clients around the world. The opening of the firm’s Dubai office at the end of 2007 and the Moscow office earlier this year cemented its global growth and focus on clients internationally.

King and Spalding

Clifford Chance Contact person/ department: Anna Ward Address: 10 Upper Bank Street Canary Wharf London E14 5JJ Telephone: +44 20 7006 1000 E-mail: info@cliffordchance.com Website: www.cliffordchance.com Description: Clifford Chance is one of the world’s leading law firms, helping clients achieve their goals by combining the highest global standards with local expertise. The firm has unrivalled scale and depth of legal resources across the three key markets of the Americas, Asia and Europe and focuses on the core areas of commercial activity. Clifford Chance lawyers advise internationally and domestically.

Trowers & Hamlins

Contact person/ department: Jawad l Ali Address: 125 Old Broad Street London EN EC2N 1AR Telephone: +44 2075517500 Fax: +44 2075517575 E-mail: jali@kslaw.com Website: www.kslaw.com

Contact person/ department: Nicholas Edmondes Address: Sceptre Court 40 Tower Hill London EC3N 4DX Telephone: +44 20 7423 8000 Fax: +44 20 7423 8000 E-mail: nedmondes@trowers.com Website: www.trowers.com

Description: King & Spalding has provided the highest quality legal services to its clients for over a century. Today, with more than 800 lawyers and offices in Abu Dhabi, Atlanta, Austin, Charlotte, Dubai, Frankfurt, Houston, London, New York, Paris, Riyadh (affiliated office), San Francisco, Silicon Valley and Washington, D.C.

Description: We believe lawyers exist to serve their clients - not vice versa. We also believe that every task we undertake on your behalf is unique.We expect to be judged on results, on the added value we provide, the quality of our service, and our cost-effectiveness. These attributes have led to us being voted Law Firm of the Year 2007 by the Lawyer.

Advisory and Consultancy firms AR Business Consultants Chartered Certified Accountants Tel: + 44 (0) 208 776 9500 Fax: + 44(0) 208 778 8966 Regent House Business Centre Suite No: 209 291 Kirkdale London SE26 4QD U.K. Web: www.arconsultants.co.uk Description: Saving tax & building business. We providing a personalised service to business owners and individuals. For help with any of your accountancy and tax needs, please give us a call. All initial consultations are free of charge.

Dubai International Financial Centre (DIFC) Address: The Gate, Level 14 P.O. Box 74777, Dubai, UAE Telephone: +971 4 362 2222 Fax: +971 4 362 2333 E-mail: info@difc.ae Website: www.difc.ae Description: DIFC Authority establishes and develops a suitable Quality Management System that is the foundation of the ‚Service Excellence’ strategic theme, focusing on DIFC’s journey towards achieving its vision ‚To shape tomorrow’s financial map as a global gateway for capital and investment.DIFC Authority is committed to meeting and exceeding customer’s expectations in providing consistent and competitive high quality services, through continuously improving the effectiveness of the Quality Managements System as per ISO 9001. This is carried out in compliance with DIFC Law and applicable statutory and regulatory requirements.

Chahine Capital Group Contact person/ department: Andrew Pell Address: 43, Avenue Monterey Luxembourg, L-2163 Telephone: +44 20 7 1270001 +352 260 955 Fax: +44 20 7127 4611 E-mail: Andrew.pell@chahinecapital.com Website: www.chahinecapital.com Description: Specialists in quantitative equity investment strategies. Digital Stars Europe (Bloomberg: BILDSCELX) available as Chahine Islamic Stars Europe, with Fatwa from Sharia board headed by Dr Elgari. Bespoke investment strategies under mandate and client branded funds also available.

Qatar Financial Centre Address: P.O. Box : 23245, Doha Telephone: +974 496 7777 Fax: +974 496 7676 E-mail: info@qfc.com.qa Website: www.qfc.com.qa Description: Qatar is one of the world’s fastest growing economies, and the wealthiest country in the world measured by GDP per capita. The Qatar Financial Centre (QFC) lies at the heart of this small but dynamic country’s ambitious investment and development strategy.By attracting many of the world’s leading financial institutions to establish operations in Qatar, the QFC is supporting both the development of Qatar’s economy. The QFC Authority is committed to maintaining the highest international standards in its operations and activities. We welcome firms who will contribute to the development and success of Qatar’s financial sector and we will support them in achieving success.

Overseas Trade Finance Ltd Address: Bilton Tower London W1h 7LE Telephone: + 207 859 8201 Fax: +44 845 862 1220 E-mail: info@otfonline.co.uk Website: www.otfonline.co.uk Description: Specialises in sourcing trade finance, and arrange funding for export transactions on behalf of exporters, and international trade finance professionals world wide. Company arrange the finance for Trade related business and forfeiting. Specialise also in arranging non-recourse discounting of domestic and export receivables, based on the purchase of Bills of Exchange, Promissory Notes and invoices. Overseas Trade Finance is dealing with Trade Finance related business and Forfeiting

Malaysia International Islamic Financial Centre (MIFC) Address: MIFC Secretariat Bank Negara Malaysia Jalan Dato’ Onn 50480 Kuala Lumpur Malaysia Telephone: +603 2692 3481 Fax: +603 2692 6024 E-mail: mifc@bnm.gov.my Website: www.mifc.com/ Description: In August 2006, the Malaysia International Islamic Financial Centre (MIFC) initiative was launched to promote Malaysia as a major hub for international Islamic finance. The MIFC initiative comprises a community network of financial and market regulatory bodies, Government ministries and agencies, financial institutions, human capital development institutions and professional services companies that are participating in the field of Islamic finance. Malaysia has also the distinction of being the world’s first country to have a full-fledged Islamic financial system operating in parallel to the conventional banking system.

If you would like to list your company in Financial Directory, please send your order to marketing@gifmagazine.co.uk. Claim your 25% discount by giving the following discount code: X10G01. Please note that only limited space is available in the directory. 2011 October - November Global Islamic Finance 83

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Prosperitus Capital Partners Contact person/department: Kamran H. Khan Co-Managing Partner Address: Berkeley Square House London W1J 6BD Telephone: +44 207 193 5755 Mobile: +44 7943 866 552 E-mail: kamran.khan@prosperituspartners.com They are the first of their kind to launch a private equity fund. Their ideal drive and focus is centred on Sharia complaint funding and connecting the markets in the west to the markets in the Middle East. They are doing this by translating the message of Islamic Finance. Prospertious business approach is connected to both innovation and management of the individual asset classes. They intend to foster operations in the Middle East, North Africa. Porsperitus, also have a parallel conventional platform.

Commander Fund Asset Management Ltd Contact person/department: Mark Randall Address: 4 Creed Court 5 Ludgate Hill London EC4M 7AA Telephone: +44 (0) 20 7246 9940 Fax: +44 (0) 20 7246 9944 E-mail: mark.randall@commanderfund.co.uk Website: www.commanderfund.co.uk Commander fund is primarily a conventional based asset management and operations corporation. Yet, in recent years they have been working on pioneering the closes thing to a Sharia compliant Hedge fund. They are also promoting the Middle East and developing a strong client base and market presence there.

Capitala Contact Person. Department : Patricia Assaad Address: Al Moroor Street PO Box 30398 Email: patricia.assaad@capitala.ae Telephone: +971 2 412 1111 Fax: +971 2 412 1222 Description: Capitala are the masterminds behind some of the most beautiful and nubile real estate development in the Middle East. They are focused on striking the balance between community cohesion and good business decision making. There main project Arzanah, is a US$6 billion development on Abu Dhabi island. Located in the Zayed Grand Mosque District

Islamic Finance Glossary D Dalil

A scientific argument based on reason.

Daman

Guarantee, security. Taking responsibility. Also see Kafalah.

Daman Khatar Al-Tariq

Guarantee against the travel hazards. An arrangement of mutual assistance in which losses suffered by traders during journeys due to hazards were indemnified from jointly pooled funds.

Darura

Necessity, overriding necessity. Adopting a ruling, even one that may contravene a Shari’ah rule, when one is compelled by extreme necessity, usually life or death (Usually used for the “Doctrine of Necessity,” whereby something otherwise prohibited becomes temporarily permissible).

Da’wah

Claim, as in Takaful.

Dayn

Debt. A dayn comes into existence as the result of any contract or credit transaction.

Deen

It refers to a complete code of life prescribed in Islam.

Debt

Usually refers to an amount owed for funds borrowed. The debt may be owed to an organisation’s own reserves, individuals, banks, or other institutions. Generally, the debt is secured by a note, bond, mortgage, or other instrument that states repayment and interest provisions. The note, in turn, may be secured by a lien against property or other assets. Debts in different forms all imply intent to pay back the amount owed by a specific date as set out in the repayment terms.

Debt Service Reserve

Term used to refer to cash reserves set aside by a borrower, either by internal policy or lender covenant, to repay debt in the event that cash generated by operations is insufficient.

Default

A failure to discharge a duty. The term is most often used to describe the occurrence of an event that cuts short the rights or remedies of one of the parties to an agreement or legal dispute, for example, the failure of the mortgagor to pay a mortgage installment, or to comply with mortgage covenants.

Dinar

Currency in the form of gold coins that was used in the past. The term is still used in some Muslim countries, like Iraq.

Dunya

This “world”. Dunya literally means ‘closer’ or ‘lower’. Life in this world temporal world - and its earthly concerns and possessions.

Duyoon Haalah

Dayn / Debts that have become due or can be called back at any time.

Duyun Mu’ajjalah

Time of payment settled between the creditor and the debtor and the debt is not yet due.

Due Diligence

Refers to the task of carefully confirming all critical assumptions and facts presented by a borrower. This includes verifying sources of income, accuracy of financial statements, value of assets that will serve as collateral, the tax status of the borrower and any other material facts presented by the b

Dyan

Debt. A Dayn comes into existence as a result of any other contract or credit transaction. It is incurred either by way of rent or sale or purchase or in any other way which leaves it as a debt to another. The lender should not impose on the borrower more than what is given on credit.

84 Global Islamic Finance

October - November 2012

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In this final part of the Islamic Finance and Branding Series we are going to look at the ways in which we can unlock the secrets of internal marketing and further promote team management within an Islamic financial institution. Effective internal marketing can help to spur growth in your business and also aid in further promoting the growing Islamic financial and banking industry.

GIF’s Innovative Islamic Finance Product Review 2012

Global Islamic Finance Magazine will discuss the various different ways that internal marketing can be implemented in your Islamic Financial institution. This article will give you a thorough insight into the internal marketing industry and would be beneficial to professionals, students and anyone wishing to know the key to unlocking the secrets to success in internal marketing. We will be discussing marketing in the consensus of Shariah compliancy adhering to the principles of Islam in order to ensure that all promotion of the

In this edition of Global Islamic Finance Magazine we will be looking at the various products and services which the Islamic finance industry has brought in 2012. The industry has been growing at a substantial rate and many people are finding the ethical principles of Shariah compliant financing an attractive proposition. Both Muslims and Non Muslims are utilising Shariah compliant financing methods either in Islamic banking or investments and the scope is wide and varied for more lucrative deals. The future of the industry looks promising if there are more Islamic products created to cater for a wider sector of the population and not just higher threshold customers. This article aims to give you a review of the products and services that the Islamic finance industry has brought forward in 2012 and will shed light on the future of the Islamic finance industry in establishing new products.

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