Islamic Finance Bulletin June 2014

June 2014

Islamic Finance Bulletin

Gulf One Lancaster Centre For Economic Research

4TH ISLAMIC

Co-organizers

BANKING AND FINANCE CONFERENCE (IBF 2014)

Supported by

23 & 24 JUNE 2014 lums.lancs.ac.uk/research/centres/golcer

From the Editor

A few events in the past month, of varying kinds and degrees of publicity, have caught the attention of this publication in representing the current state and prospect of the Islamic finance sector. Each is reviewed within this bulletin, as a

Contents

staging post for awareness of the industry.

First to mention would be the UK’s delivery of the sovereign sukuk that was promised at WIEF last year. Only £200m

HIGHLIGHTS (p.3)

in size, it nevertheless marked London’s attempt to show its commitment to sharing strategically in the Shariah-compliant market, and was oversubscribed some ten times.

Second, the 11th annual summit of the standard-setting IFSB

RECENT DEVELOPMENTS (p.4)

in Mauritius coincided with a mid-term review of a ten-year framework and programme to advance Islamic finance’s proposition to its potential customers around the world, with recommendations arising.

FEATURE (p.7)

Third, Lancaster University itself hosted an Islamic finance forum which assembled a multitude of parties from different sides of the industry and discipline, to collaborate in developing a

CONFERENCE COVER (p.10)

deeper understanding of its issues and continuing constraints, and ways to step forward.

Taken together, these instances exemplify aspects of the market realities, institutional and theoretical challenges, and need for

FEATURE (p.13)

cross-border efforts that characterise the range of topics that can be found when studying this sector and its potential.

Meanwhile, trends in the financial and commodity markets,

STOCK MARKETS (p.16)

also tracked here, tended to show the lack of volatility that has become routine as bonds and equities have reached liquidityfuelled heights, while the global economy itself is still muddling along in uncertain fashion.

COMMODITIES (p.19)

Apart from natural investor concern that significant further gains in stocks and fixed-income might be hard to achieve, confidence was affected both in May but mainly in June by geopolitical developments, especially the spreading conflict in

BOND AND CDS MARKETS (p.20)

Iraq. Oil and gold were modestly affected too.

Lastly in this edition, we have continued also to provide a digest of the regular news in Islamic finance, particularly as regards its geographical growth, and this month feature Morocco in our series of country-based reports.

Page 2

ISLAMIC BONDS (p.21)

Highlights Egypt: While tensions inevitably persist, the elevation of former army chief Al-Sisi to the presidency has corresponded with generally buoyant financial markets, owing to perceptions of conducive stability. The unexpected announcement of a capital gains tax on investors caused a brief pullback in stocks, but that was offset by MSCI’s decision to keep Cairo’s bourse in its emerging markets index, a reflection of improved national finances and firmer Egyptian pound. The country’s eurobonds traded at lowest yields for nearly four years, with international accounts reaching for yield, alongside Saudi Arabia’s call for concerted support for the local economy.

IBF 2014 Conference: This month’s 4th annual Islamic Banking and Finance Conference, held at Lancaster University in conjunction with Aston and Durham Business Schools, had record attendance and constituted the largest empirical research event in Islamic finance in the UK. Delegates from around the world, representing the various strands of the industry (researchers, regulators, market practitioners) reviewed the challenges and outlook for the sector, emphasizing the outstanding issues to study and help resolve. In so doing, they epitomized the spirit of crossborder co-operation vital to the sector’s potential growth and provision of opportunity.

UK Sovereign Sukuk: The much-awaited debut sukuk from the UK emerged in June, with very positive investor reaction, although there was some disappointment that local Islamic banks were not mandated to distribute the issue. While only modestly-sized at £200m, this debt-raising is seen as both symbolic and practical in promoting Islamic finance, and advertising its potential for corporates seeking funding. The government had reached out to investors through a roadshow across the Gulf and Malaysia, with an approach that suggested that the possibility exists of a recurrent sukuk programme.

Page 3

Recent Developments in the Islamic Finance Industry Senegal sukuk heading South Africa

Source: Reuters, June 23rd

Senegal is now on its way to beating South Africa

As highlighted in previous editions, GOLCER

and Nigeria to market with sub-Saharan Africa’s

finds this a belated response by the government

biggest sovereign sukuk, and the continent’s biggest

for the current calls by investors and practitioners

economies are expected to follow with debut Islamic

to join the queue of MENA countries inviting

bonds. This month Senegal opened its sale of 100

participation in Islamic finance. Although

billion CFA francs ($208 million) of debt, tapping a

Morocco has been seeking to develop Islamic

global market that may this year surpass the record

finance for almost two years, in an attempt to

annual issuance of $46.5 billion in 2012. The sukuk

attract Gulf money and fund a huge budget

issuance comes as Senegal plans to sell its second

deficit, the delays witnessed to date can be

Eurobond, intending to raise $500 million by July.

accounted for by the sensitivity of the political

Worldwide offerings rose 27% to $24.4 billion in

elite to Islamism, which has been remarked upon

2014 so far from a year earlier, as data compiled by

repeatedly as holding back approval.

Bloomberg show. Senegal has the second-largest economy in the eight-nation West African Economic and Monetary Union.

UK’s first sale of non-Muslim sovereign issue

Source: Bloomberg, June 27th

This month the UK became the first non-Muslim

GOLCER finds this to be one of the most interesting news items on sukuk issuance this year, given that

sovereign issuer of Shariah-compliant debt, as it raised 200 million pounds ($339 million) in Islamic bonds, with investors bidding for more

the market is still relatively underdeveloped in

than 10 times the amount offered. The notes

sub-Saharan Africa. With countries making such initial offerings, this example shows the initiative to put underdeveloped countries in the African space in position as hubs of Islamic finance. Senegal is issuing sukuk bonds before more developed markets in North Africa (such as Morocco and Tunisia) do so.

However, the development still poses challenges

maturing on July 22, 2019 were sold at a profit rate of 2.036 percent, offering zero spread to the 1.75% gilt due the same year, according to data on the UK Debt Management Office page on Bloomberg. This instance follows Prime Minister Cameron’s much-publicised announcement in October 2013 of planning to

in the form of country-level regulations, auditing and personnel professionalism and training when it comes to trading these sukuk.

sell securities that comply with Islam’s ban on interest (see Focus).

Source: Bloomberg, June 25th

Moroccan parliament advances Islamic finance

GOLCER perceives the UK as now moving more seriously to validate the premier’s commitment

The first house of Morocco’s parliament has now

late last year. We recognise these sukuk as

approved a bill to allow the establishment of Islamic

helping London to establish itself as a global

banks and enable private companies to issue Islamic

capital for Islamic finance, bracketed alongside

debt. The bill, however, still needs to be passed in a

Dubai and Kuala Lumpur. This government

final vote in the second house in the coming weeks.

issuance will also encourage further private sector issuances of sukuk in the UK. We believe

Page 4

also that a very strong signal has ultimately been

rated sovereign thereby opening the door to future

sent, albeit delayed, about the UK’s commitment to

sukuk issuance. The government has requested the

developing Islamic finance.

Council of State, the legislature’s advisory body, to consider a revised bill on July 1st, so that it can securitise government assets to back a sukuk worth

Sukuk issuance to have formal liquidity guidance

200 million euros ($275 million).

The Malaysia-based Islamic Financial Services Board

Source: Reuters, June 25th

(IFSB), one of the main standard-setting bodies

GOLCER considers Luxembourg’s initiatives as

for Islamic finance, has announced a plan to issue

being motivated by the example of the UK’s recent

draft guidance by year-end on how Islamic banks

issuance. It seems that the competition between

may manage liquidity, as they tend to face a lack

European/Western countries to join Islamic finance

of short-term funding instruments. This guidance will

will be fierce. Although Luxembourg tends to lose

enable financial institutions to use sukuk as a key

out to Britain in such cases, in terms of speed of

tool for meeting the liquidity requirements of Basel III. Guidance from the IFSB would help Islamic banks manage their short-term funding needs. The guidance note would address the use of an alternative

actions and prospective timeframes, nevertheless repeat sukuk issuance could cement a stronger commitment to the Islamic finance industry by these countries than by other Western nations.

mechanism to help Islamic banks meet the liquidity

We find that both countries, as are many others

coverage ratio (LCR) found in Basel III.

European nations, are working hard this year to

Source: Khaleej Times, June 25th

boost their industry credentials to attract more

GOLCER believes this guidance is crucial for Islamic

the growing market for sukuk.

business from cash-rich Gulf countries and tap into

banks worldwide, particularly in the Gulf, which has been waiting for regulatory guidance on how debt instruments such as sukuk will be treated under

Jordan studies sukuk issuance

Basel III, the directive which reflects stricter banking rules being phased in around the world. Basel III

Jordan’s government is currently studying a

now offers an alternative liquidity arrangement

proposal to issue its first Islamic bond. The

for domains with limited high-quality assets which

country’s sukuk programme may start as early

would be extended to markets where Islamic finance

as next year. A committee including the finance

features prominently. However, the application of

ministry and the central bank is looking at a

this guidance will be challenging for the majority

proposal for a recurring issuance programme,

of Islamic finance jurisdictions in terms of providing

although details such as the size, tenor and

markets and assets guidance for banks in their efforts

frequency of issuance have yet to be determined.

to international-level Basel rules.

Source: Reuters, June 12th GOLCER is unsure about the likely results of

Luxembourg planning sukuk bill

Jordan’s proposed issuance of sukuk, as the pressure to cut public debt and a preference for

Luxembourg has expressed its hopes of adopting a bill before the summer holidays that would allow it to issue its first Islamic bond, especially with the AAA-

concessionary loans from aid donor countries could hinder the plan. Even though the country has an established Islamic banking sector,

Page 5

issuance of sukuk has been slow, with legal

taking the roadshow far and wide”, meeting

limitations on the transfer of assets required to

investors in Qatar, Saudi Arabia, the UAE and

underpin such transactions. Jordan passed a

Kuala Lumpur. “It should convince doubters that

long-awaited law at the end of 2012 allowing the government to raise funds through sukuk, but no

this is not a one-off.”

issue has yet been materialised, while Jordon is

Reuters commented that the choice of arrangers

increasingly using international bonds to help cover

in HSBC, Qatar’s Barwa Bank, Malaysia’s CIMB,

its budget deficit.

National Bank of Abu Dhabi and Standard Chartered – “big institutions with considerable marketing muscle” – was “designed to ensure

Focus: UK’s sovereign sukuk

easy distribution and tight pricing”. The omission of Britain’s six fully-fledged Islamic banks,

The Financial Times reported that, according to

however, “could reduce the impact of the issue

arranging bank HSBC more than a third of the

in developing expertise and depth in Britain’s

issuance went to UK investors, with the remaining

Islamic banking sector”. The issue itself will use

bonds sold in the Middle East and Asia. Previously,

an ijara structure, a Shariah-compliant sale and

British grocer Tesco issued a sukuk in 2007 through

lease-back contract, under which the rental

its Malaysian arm, and Ocado, an independent

income of three central government offices will

online grocer, borrowed £10m in a Shariah-

underpin the transaction.

compliant loan in 2009. The FT reported a banker’s claim that some of the UK’s largest property

UAE news agency WAM said the sukuk offering

companies “have already expressed interest” in the

was in fact 11.5 times oversubscribed, quoting

idea of raising finance through Islamic bonds. It also

leading local bank NBAD’s group CEO saying

quoted Humphrey Percy, chief executive of The Bank

the growing market “provides a valuable and

of London and the Middle East, remarking: “The

diversified funding source for clients across the

issuance of a UK sovereign sukuk sets a precedent

West-East Corridor”.

for the Western financial world, with the high demand hopefully encouraging further issuance from Western countries and corporates.”

However, market-tracking publication Global Capital.com found the timing of the issuance to result from “some strange misfiring of logic, [as] the government managed to announce a Middle East-focused roadshow late on Thursday” at the beginning of the region’s weekend. Moreover, it implied a mistake in that no UK Islamic bank got the mandate, even at sub-arranger level, although those banks may have more confidence in the government’s plans for the future, when they can offer “precisely the kind of hands-on specialist knowledge and attention that big banks have failed to muster for smaller borrowers in recent years”.

That said, the government “should get plaudits for

Page 6

Feature Islamic Finance report card: Morocco

by Rachel Latham and Andrew Shouler

Morocco has emerged from the Arab Spring

to, the government wants to encourage new

with clear ambitions and moreover is better

industries, to attract increased inward invest-

placed, economically and politically, than many

ment as well as expand export markets, with

of its North African neighbours to fulfil those

the focus turning towards sub-Saharan Africa.

aspirations. The development of Islamic finance stands among those objectives.

One sector clearly earmarked for expansion is the financial industry, which is already one

Having undergone what has been described

of the most prominent in Africa. The newly-

as an evolution rather than a revolution, with a

formed Casablanca Finance City (CFC) is

democratic transition initiated in the 1990s, the

meant to become a regional financial hub for

country has managed to avoid the levels of tur-

north and west Africa. Very much part of this

bulence experienced in other parts of the region.

vision is the creation a thriving Islamic finance

It has also withstood the economic meltdown of

sector.

its main trading partner, the eurozone.

The benefits of such a strategy appear to touch As a consequence of this resilience, Morocco

all aspects of Moroccan society. Of course,

has gained the confidence of international

with a Muslim population of over 30 million,

markets. Proof of this is the recent successful is-

it is hardly surprising that a survey carried out

suance of a €1bn 10-year bond, and the King-

by IFAAS consultancy found that more than

dom’s investment grade rating from S&P and

90% expressed an interest in Islamic financial

Fitch Ratings.

products.

On a global perspective, Morocco is a late-

So what are those goals, exactly? With a large

comer to this fast-growing sector, but there is

budget deficit and high unemployment to attend

now a sense of urgency, in common with the international impetus and domestic imperatives.

At the beginning of this year Morocco’s government adopted a bill regulating Islamic banks and sukuk issues. A final vote by parliament is expected ¬¬¬later this year. Once approved, the law will enable the formation of fully-fledged Islamic banks, whether subsidiaries of Moroccan banks or foreign entities.

Until now only Attijariwafa Bank -- controlled by the royal family’s investment holding company SNI, and one of the biggest banks in North Africa -- was the only Moroccan bank

Page 7

out of ten institutions surveyed by the Moroccan financial market authority (CDVM) last year saying they would be interested in issuing sukuk once the law allowed.

In terms of alleviating poverty, zaqat and awqaf, Shariah-endorsed instruments, already a deeply rooted part of Moroccan culture will be boosted by the enhanced focus. Also in the area of microfinance, participatory banks – as Islamic banks will be called under Moroccan legislation - will bolster funding of small businesses, which (with SME’s accounting for more than 95% of the total number of operating enterprises and 48% of total employment), is of considerable importance.

At the other end of funding scale, the country should benefit from attracting overseas funds, reflecting closer ties with GCC countries and other parts of the Muslim world.

The fact that Morocco is a latecomer does have its advantages, in that guidance is available from the experiences of other countries.

Perhaps of key importance is the topic of Sha-

to have offered Islamic finance products, and only

riah governance. The Moroccan framework is

for personal finance. Once the bill is passed, the

unique in this respect, in the sense that indi-

bank will boost its Islamic business either in the form

vidual participatory banks are not permitted

of a joint venture with a foreign partner or alone.

to have their own Shariah board, and instead

Two other local banks, BMCE Bank and Banque

their activities are to be endorsed by the state-

Centrale Populaire (BCP), are also preparing to

authorized Central Shariah Board.

launch Islamic subsidiaries. There is also talk of new

Challenges remain, particularly in the likely

entrants to the market. The Egyptian–headquartered

uptake of the products the sector rolls out.

Faisal Islamic Bank is reported to have shown inter-

While significant interest has been identified, it

est in operating in Morocco, as has Qatar Interna-

is usually qualified on the retail and SME side

tional Islamic Bank.

by the fact that potential demand is not irre-

Preparation is also under way for sukuk issuance,

spective of cost.

both sovereign and corporate. In June last year the multilateral Islamic Development Bank announced

Attijariwafa Bank’s managing director Ismail

that it would support Morocco by buying its first

Douiri told Reuters in an interview earlier this

sovereign sukuk, in place of offering the country

year that Morocco has a very competitive

more finance, thereby ensuring that there is a large

banking market, and Moroccans are very

institutional investor supporting the issue. There is

price-sensitive, so he was not expecting a

also strong interest at the corporate level, with nine

sudden, dramatic impact, as it is almost impos-

Page 8

sible, he said, to have products with the same

The Moroccan Association of Participa-

prices as those emanating from conventional finance, at least initially.

tive Financiers, for instance, estimates total

Price competitiveness will not be the only test

to reach USD7 billion by 2018, assuming

investment in Shariah-compliant products that all goes to plan with the passing of

facing this fledging sector. The training of in-

the Islamic Law this year. Thomson Reuters

dustry professionals, in particular the develop-

estimates that Islamic banking assets could

ment of the expertise of local scholars, is a key

potentially reach $8.6 billion by 2018 – ac-

requirement to ensure the long-term growth of

counting for around 5% of total banking as-

the industry, as is the development of a stan-

sets, up from a current base of 0.5%, with a

dardised Shariah framework and correspond-

profit pool of between $67 million and $112

ing documentation. Having a Central Shariah

million in view for Islamic finance providers.

Board, rather than individual banks pronouncing on matters (as is the case in some coun-

It is yet one more example of the welcom-

tries), should assist in streamline the crossing of hurdles faced.

ing prospect that the industry presents to

According to Ernst & Young, global Islamic fi-

forts.

those willing to invest the appropriate ef-

nance assets are expected to climb to USD 3.4 trillion by 2018 from about USD 1.7 trillion in

Sources: Thomson Reuters, Ernst & Young, Clif-

2013. The international backdrop, therefore,

ford Chance, The Banker, Bloomberg, Financial

is enticing. With the advantage of learning

Times

from experiences elsewhere, a bright future for Islamic finance in Morocco is predicted by many.

Page 9

Conference Reflections on the 4th Islamic Banking & Finance Conference

by Vasileios Pappas and Andrew Shouler The 4th Islamic Banking and Finance Conference was hosted this month by the Lancaster University Management School (LUMS).

Co-organised by the El Shaarani Centre for Islamic Business & Finance (EIBF) at Aston Business School, the Gulf One Lancaster Centre for Economic Research (GOLCER) and Durham Business School, the well-attended event provided a forum for an exchange of views on key issues and challenges in the sector.

With a record attendance of over one hundred participants, it is the largest empirical research gathering in the field of Islamic finance in the UK. Delegates came from over thirty countries, including Malaysia, Australia, the USA, France, Algeria, Pakistan and Saudi Arabia, to name but a few. The discourse benefitted from the offering of ideas from individuals involved within the many facets of Islamic finance, whether researchers, regulators, or practitioners.

The Dean of LUMS, Professor Sue Cox, gave an opening speech addressing the sustained growth of Islamic finance in the past five to ten years, and the substantial scope for future expansion.

The fact that three institutions were collaborating in the UK to research this area of banking itself marked a notable step forward in reflection of the subject’s current resonance.

The keynote speech was given by Professor Thorsten Beck of Cass Business School and Tilburg University, explaining the role of Islamic banking in the modern world. It highlighted the results of a research study comparing the per-

Page 10

formance of both Islamic and conventional banks from around 22 countries, with aspects of business orientation, efficiency, asset quality and stability.

Islamic banks were revealed to be more capitalised but less cost-efficient, which could be due to differences in the business model.

As to lines of future

research enquiry, those might include the drivers of the expansion of the industry, its role in financial inclusion, and the type of customers who uses Islamic banking services, as well as the type of products offered, given a choice in the market between competing systems.

The series of presentations consisted of original contributions on topical matters, including Islamic finance’s specific contribution to economic growth, the requirements of risk management, the Islamic variant of microfinance, the regulation, supervision and comparative performance of Shariah-compliant institutions, and corporate social responsibility, as well as technical issues of their efficiency, stability and default risk. Also covered were investmentrelated matters of Islamic indices and stock market returns.

The topic receiving the best paper award had analysed the stock market reaction to 131 sukuk issuances from eight countries over the period 20062013. It found that the type of sukuk and choice of scholars hired to certify these securities matter for the market valuation of the issuing company. In particular, the analysis revealed that Ijara (lease) sukuk structures exert a positive influence on the stock price of the issuing firm.

Another interesting contribution extended the empirical studies linking investor mood and financial market behaviour, in particular the impact of psychological effects associated with Ramadan celebrations. Using data as far back as 1990, from seven predominantly Muslim countries, the results indicated that ‘herding’ activity is significant dur-

Page 11

ing Ramadan in the majority of the markets

finance and currently is home to more than four times

examined, with the exceptions of Malaysia and

the number of banks offering Islamic financial services

Pakistan. The findings have important relevance

in any other country in Western Europe, there is over

to international investors dealing with these

$19 billion held in Islamic assets here, and pioneering

markets.

tax law reforms have been brought in order to support further growth of the sector.

Among ideas put forward of immediate note in the UK, one attractive example was a proposal

With the continuing rapid growth and interest in the

on Islamic student loans, seeking to enable

sector, the Islamic Banking and Finance Conference

access to university education for Muslims who

promises to become a focal point for academics, ad-

wish to abide by Shariah rules but cannot afford

ministrators, advisory bodies and practitioners alike.

the UK’s £9000 pound/year fee. This piece of

More than anything, the event will facilitate what has

research may have important policy implica-

become observed as the necessity of inter-connect-

tions, as it could help engage the segment of

edness, on a cross-border basis, to seek resolution of

Muslim students in the UK that are currently ex-

the issues that remain outstanding in the sector, and

cluded from education due to being religiously

help enhance awareness of its offering.

restricted from borrowing from the conventional sources operating on an interest basis .

As to the global context, Islamic banking is now practised in more than twenty countries, with a steadily growing suite of services and instruments available including bonds, equity indices and insurance. The annual growth rate is estimated at this point at around 16%, relatively unaffected by the global financial crisis. Currently Islamic finance products, which total in excess of $1.2 trillion, are offered by 350 institutions worldwide.

A central theme in Islamic finance has been its revealed, relative resilience compared to conventional counterparts, as there is growing evidence that the constraints applied by Islamic banks protected them to an extent from the shocks of the international credit crunch. It is that finding that has especially attracted the attention of market participants and researchers to the Shariah-compliant banks, and their liquidity buffers, leverage ratios, managerial efficiency and bespoke financial products.

In respect of the UK, which aspires to become an important hub for the development of Islamic

Page 12

Feature Strategies for the Islamic Financial Services Industry Reflections on the Mid-Term Review (MTR): A Joint Initiative by IRTI and IFSB

by Hylmun Izhar The most anticipated Mid-Term Review (MTR)

Contents of the Mid-Term Review

of the 10 Year Framework and Strategies was recently launched in conjunction with the 11th

The Mid-Term Review of 2013 was aimed at

IFSB (Islamic Financial Services Board) Summit,

assessing the impact of macroeconomic events,

hosted by the Bank of Mauritius.

to monitor progress in implementing the recommendations, and to propose additions or

Its 13 core recommendations were firstly

modifications to the recommendations to guide

published by the Islamic Research and Train-

the industry.

ing Institute (IRTI) of Islamic Development Bank (IDB) in collaboration with IFSB in March 2007.

In conducting the MTR, IRTI and IFSB were supported by a number of prominent research

The main idea was to systematically study, dis-

institutions, and have engaged with leading

cuss and propose policy responses for the or-

regulators, market players, academicians and

derly development of the Islamic Financial Ser-

Shariah scholars through various intensive dis-

vices Industry. The 10Y framework document

cussions during the roundtables held in Qatar,

could ultimately provide a general blueprint or

Malaysia and Turkey whereby IRTI and IFSB

guideline for new and existing Islamic finance

had an opportunity to obtain further insights

jurisdictions in designing and developing their

from the key stakeholders and the panel of

national plans and major initiatives as part of

Review Committee.

their financial sector development policies.

The key findings were as follows: A number of leading specialist and practitioners had prepared technical papers on vari-

Firstly, the industry has shown growth and re-

ous themes that were presented in a technical

silience, with growing market share and profit-

workshop jointly organised by IRTI and IFSB

ability, an expanding number of institutions,

in 2005 in Dubai, hosted by the Dubai Finan-

and numerous industry-level initiatives under

cial Services Authority. Subsequently, IRTI and

way, reflecting customer confidence in the sec-

IFSB jointly organised a policy dialogue on the

tor, whose conÂŹcept is proven in many markets.

same theme in Malaysia, facilitated by Bank Negara Malaysia. A drafting committee was

Secondly, macroeconomic events or external

formed, which held three meetings and final-

factors have brought both challenges and op-

ised a draft document.

portunities to the sector, which has not been immune to the effects of the global financial crisis,

At its final meeting in August 2006 in Kuala

by way of the economic impact, the approach

Lumpur, the drafting committee reviewed all

to financial regulation, the strength of partners

the comments and the feedback received and reached a consensus on the revised document.

Page 13

a) to develop an understanding of the linkages and dependencies between different components of Islamic financial services, to enable more informed strategic planning to be undertaken; b) to foster and embrace innovative business models, including new technologies and delivery channels, in offering Islamic financial services; c) to strengthen contributions to the global diaand counterÂŹparties, and the value of assets and investments. Nevertheless, some countries have acted as important centres of growth as the global economy has stumbled. Political developments in recent years have also made several countries more open to Islamic financial services. Technological innova-

logue on financial services, offering principles and perspectives to enhance the global financial system.

Furthermore, a 3-pillar framework has been introduced, namely Enablement, Performance, and Reach, and Key Performance Indicators

tions such as branchless financial services are now available, and can allow the industry to broaden its future reach.

(KPIs) developed to help address weaknesses and monitor progress in a more focused manner.

Progress made on the original recommendations

Thirdly, the development of the industry has varied

has been mixed. For instance, many countries

by sector, while estimates of its total asset size and

have adopted international standards specific

growth rate vary significantly (either near or well

to Islamic financial services; however, many

above USD 1 trillion). As a key example, Islamic

have not yet fully done so.

microfinance has transitioned from a concept with isolated case studies to a fledgling sector across

A stronger Implementation Plan is to be un-

multiple markets. Moreover, although the market

dertaken by a range of stakeholders, amongst

values of certain Shariah-compliant instruments

which it is suggested that the role of central

have shown mixed performance due to overall

banks and governments are especially impor-

capital market challenges, and Shariah-related

tant. Twenty Key Initiatives have been synthe-

challenges remain, the breadth and sophistication

sised and prioritised. These are classified in line

of such instruÂŹments has improved.

with the three pillars of the framework – Enablement, Performance, and Reach; summarised in

Inevitably, modifications on the original document have been made, in order to reflect the current status of the Islamic Financial Services Industry (IFSI).

Three additional recommendations aim for the following --

Page 14

the accompanying chart.

Enablement

Integrate Islamic finance in national development plans Introduce national Islamic financial services master plans Enhance regulatory implementation and enforcement Harmonise, where possible, regulation and regulatory frameworks across borders Adopt and strengthen national Shariah governance frameworks Where mandates overlap, align the positions of industry bodies Link Islamic financial markets across borders Form a “Technical Assistance and Linkage Network�

Form regional working groups Foster information-providing institutions that support the provision of Islamic finance Incorporate Islamic finance data in statistical and official reporting

Performance

Institute centralised R&D for Islamic financial products in addition to the decentralised R&D Establish diversified financial institutions Demonstrate the industry’s distinctive value proposition Fund public infrastructure projects to build Islamic capital markets

Reach

Revitalise zakah and awqaf for greater financial inclusion and make them an integrated part of Islamic financial system Ensure that regulations allow for the use of new technology to provide affordable services Engage with newly-opened markets Foster the financing of a wider set of economic sectors Brand Islamic financial services for wider markets

Conclusion The world consists of a diverse group of nations; which span a range of regions, cultures and stages of economic development in which Islamic law, common law, and civil law jurisdictions are ad-

While diversity of use in these areas is appreciated, a key underlying theme is that a supportive public policy stance is essential for enabling the industry to reach its full potential. Different countries have been successful under various models;

opted.

each choice brings benefits and drawbacks.

In conducting the Mid-Term Review, it was ob-

policy stance can help contribute to greater con-

served that diverse views were particularly salient in regards to: (a) whether countries should have specific laws for Islamic financial services or rather fit Islamic structures into a single set of financial services laws; (b) whether countries should adopt national-level Shariah boards or retain Shariah governance solely at the institutional level; (c) whether central banks should allow conventional institutions to offer Islamic financial services; (d) whether the adoption of international standards specific to Islamic finance is essential; and (e) whether product standardisation should be a policy objective or not.

Nevertheless, a strong and supportive public fidence that energises the private sector.

The MTR therefore does not seek to prescribe specific approaches to the choices above. It does, however, urge various jurisdictions to deliberate carefully on these matters and form well-considered strategies. The MTR also indicatively suggests that Islamic financial services offer benefits to the people and economies of the public at large, and advocate thoughtful strategies on how best to avail of these benefits.

Hylmun Izhar, PhD is an economist at IRTI-IDB

Page 15

Stock Markets GCC Most of the GCC’s indices gained again in May, bringing the collective advance to nearly 20% in the year to date. Qatar was bestperforming ahead of its inclusion in MSCI’s emerging market index, while the twin UAE bourses were comparatively volatile -- reflecting a certain degree of disquiet among international benchmarks -- having made greatest progress during 2014 so far. Investor sentiment remained

for shares which had slumped upon news of

generally positive in the aftermath of the earnings

a 10% capital gains tax to be imposed. A key

season, with economic growth still well supported

consideration in the agency’s decision was the

by oil prices firmly in three-digit territory, lifted

accumulation of foreign reserves in the past year,

partially by the Ukrainian case, and subsequently

and corresponding appreciation and stability

geo-strategic Middle East issues. The conflict

of the currency. Merger plans between Beltone

and turmoil in Syria and Iraq nonetheless

and EFG-Hermes investment banks also gave

prompted a drop in Gulf stocks in June, taken

a fillip, as did Saudi Arabia’s call for Egypt to

by analysts to be only a correction as renewed

benefit from an international aid effort upon

buying quickly reappeared, although book-

the accession of former army chief Al-Sisi to the

squaring was expected ahead of the quieter

presidency. Elsewhere, Turkey’s Borsa Istanbul

Ramadan period.

retreated from its improvement over several weeks as violence surged in Iraq, given the

Egypt / MENA

impacts on trade and oil prices.

Egypt’s stock market too was affected by MSCI’s index deliberations, as the compiler declared

South East Asia

it was no longer considering downgrading the

Most Asian stocks were well supported

country to frontier status. The announcement in

by the combination of a strengthening US

late May was followed by a sharp bounceback

Page 16

economy in tandem with the retention of very accommodative monetary policy, recovering ground previously lost. Better signs from China imparted confidence too. The Thai market featured, reaching peaks this year despite the imposition of martial law, as the new military rulers set about restoring order, for instance in ensuring cash flow at state firms. Foreign funds that initially were driven away found themselves drawn back, in league with domestic investors. Other bourses were influenced by incidental factors, such as Malaysia’s robust growth data for Q1, softer GDP numbers relative to expectation in the Philippines, and Indonesian interest rates being held steady rather than easing as hoped.

Rest of the World US equity indices maintained their form in the period covered, backed by easy-money alongside the sense of economic pick-up, including buoyant housing figures, a better jobs report, and firmer inflation. In Europe traders adopted the theme of recent times that bad news is good news, insofar as signs of economic weakness will be met by the persistence of cheap credit and the authorities’ promotion of liquidity-based stimulus. The European Central Bank signalled its intent not only to keep interest rates low, or negative, but to bring forward other extraordinary measures if necessary, suggesting to investors that there might be currency relief to come. Russia and India (where for the first time in thirty years an overall government majority resulted from a general election) stood out among emerging markets.

Sources: GIC, Reuters, Bloomberg, broker reports

Page 17

Islamic Stock Indices Islamic or Shariah compliant indices exclude industries whose lines of business incorporate forbidden goods or where debts/ assets ratios exceed 33%.

The increasing popularity of Islamic finance has led to the establishment of Shariah compliant stock indices in many stock markets across the world, even where local Muslim populations are relatively small, such as in China and Japan.

Evolution of Islamic Stock Markets in May 2014 for GCC, Far East, Middle East North Africa (MENA) and Rest of the World markets. Prices represent the closing price of the respective index at 30/5/2014. Percentage Month-to-Month (MTM) Change and percentage Volatility. Source: Datastream

Conventional Stock Indices

Volatility is a measure of uncertaincy of market returns. It is calculated as the standard deviation of the returns in the reported month. The formula for the standard deviation is: Ďƒ=E[(X-Îź)2]1/2

Evolution of Stock Markets in May 2014 for GCC, Far East, Middle East North Africa (MENA) and Rest of the World markets. Price represent the closing price of the respective index at 30/5/2014. Percentage Month-to-Month (MTM) Change and percentage Volatility. Source: Datastream

Page 18

Commodities Oil Geopolitical concerns, particularly over Ukraine, lifted oil prices in May, as well as the delayed return of Libyan exports and the reemergence of Asian demand. These factors broadly offset the impression of sluggish global economic growth and the record high reached in US inventories. Overall, the markets were roughly sideways, exhibiting the lowest levels of volatility in a decade. In June traders’ attention was seized by the Iraq insurgency, both for its political fallout and its potential to disturb the country’s crude supplies, though situated some distance yet from the conflict zones.

Gold/Precious Metals Gold turned softer again during the period, as US Federal Reserve pronouncements that inflation pressures remain muted were taken on board, with the key measure still below the 2% target. Hedge funds reduced long positions, as money reverted to equities in the face of diminishing worries about economic slowdown.

Analysts expected a slide in prices until a possible seasonal rebound in the third quarter.

Events in Iraq induced safe-haven buying again, however, and Fed chairman Yellen’s remarks that interest rates would persist low gave further encouragement, although a rangebound trend still seemed set.

Copper/Base Metals During May copper prices gained as fears

potential curtailment of funding transactions as a

receded of retrenchment in the Chinese

bearish signal for dealing. Underlying motivation of

economy. Industrial data strengthened, matching

prices depended, however, mostly on the continual

an improvement in counterpart US figures that

variation of economic statistics, which lacked direction.

also boosted confidence. Sentiment deteriorated in June, though, when an investigation was

Sources: OPEC, Reuters, Bloomberg

initiated by the authorities into fraudulent trading of copper in China, part of a crackdown on the shadow finance sector. Experts took the

Page 19

Bonds and CDS markets GCC Bonds in the Gulf space benefited through May and into June from the helpful backdrop from US Treasuries, whose progress has surprised analysts this year. In most recent weeks, however, the regional troubles in Iraq took some hold of sentiment, and yields moved higher. Risk appetite diminished somewhat, and attention was drawn back to new issuances. Liquidity generally has been light enough that prices have been well bid when confidence is in place, with underlying local demand tending still to outstrip supply, although financials such as RAKbank and Commercial Bank of Qatar have come to market to take advantage of low borrowing costs.

Corporates such as MAF and Qtel, meanwhile, have faced a certain amount of profit-taking, having rallied.

Egypt / MENA Egypt’s international bonds have continued to climb on the back of an extended period of political stability, despite simmering tensions in the country. Likewise, the firmer standing of the pound and national finances have given comfort to investors that a better platform is in place for investors’ trading, especially with the specific call from Saudi Arabia that more support should be given from the region to aid the Egyptian economy. Invest AD reported Egypt 2020 bonds trading at roughly 4.75%, the lowest since December 2010, and 2040 bond yields down to 6.85%, the lowest since November 2012.

International accounts have taken greater notice as well, encouraged to seek rewards again in emerging markets, with benchmark market yields having become so low.

Malaysia / South East Asia Asian bonds were motivated in the period covered by investors’ renewed search for yield, with G3 monetary settings all very easy still,

Page 20

with Europe’s stance becoming even easier, and US benchmark prices having climbed again. Currency

Sovereign Bond Markets

volatility’s decline was a sign of sanguine sentiment, leaning towards risk-taking. Regional countries’ economies were also expected to benefit from signs that China is allowing the yuan to appreciate again, impacting on relative competitiveness. At the same time, the continuation of stronger economic data, e.g. manufacturing output, in Malaysia caused yields to firm, with suspicion that the central bank would have to consider raising interest rates. A better credit outlook expressed by agencies on the Philippines underpinned confidence.

Global Benchmarks By mid-June US Treasuries had settled at elevated levels, the result of a combination of forces.

The Federal Reserve has continued to promise accommodative policy, despite the economic upswing, as inflation remains apparently under control. Foreign accounts, including central banks, have bought into the persistent appeal of liquid dollar fixed-income, partly as the response to safe-haven need in the face of

Evolution of Bond Markets in May 2014 relative to the previous month.

The table reports the price index on which the MTM Change is calculated (month-to-month) and the Yield of sovereign bond maturities typically between 6 months and 25 years. Data as at 30/5/2014.

Credit Default Swap Markets

global political and security flashpoints. The European Central Bank’s declared intent to keep downward pressure on interest rates, and implicitly to weaken the euro, meant that the bund yield discount was reaching its limits. Regulatory pressures have added to demand for bonds, while improving budget figures have limited the need for additional supply.

Source: Invest AD, Emirates NBD, Bloomberg, broker reports

Evolution of CDS Spreads in May 2014 relative to the previous month. The index reported here represents the average basis points (bp) of a 5-year CDS for protection against sovereign bonds. Data as at 30/5/2014. MTM Change refers to the change relative to the previous month.

Page 21

Islamic Bonds (Sukuk) The tone in secondary trading essentially switched from May to June, as the rally in emerging-

5yr lifespan, priced at 170bps over 6mth Saibor.

Abu Dhabi’s Al Hilal Bank also issued a

market and frontier credits was reversed upon

$500m capital-boosting sukuk, as again high

developments in Iraq and US yields trending

demand helped reduce the borrowing cost,

higher. International funds showed nervousness,

with guidance revised tighter. The perpetual

and regional accounts in the Gulf absorbed only part of the selling pressure.

transaction can be bought back by the lender

Focus was mainly again on the primary market.

around $5bn.

after the fifth year. Order books were worth

New names were well received and recent

Beyond the Gulf, activity was not so forthcoming,

offerings traded well following a typical dip

but had interesting features.

immediately upon issuance. Kuwait Finance House’s monitor described May’s total in the GCC as “monumental”, demonstrating once again the region’s continuing appetite relative to supply. As documented in last month’s edition, Dar Al Arkan, ICD and IILM featured in that period.

Public Islamic Bank, the Shariah-compliant arm of Malaysia’s third-largest lender, issued the first tranche of a 5bn ringgit sukuk programme. The 10-year murabahah issue has an annual return of 4.75%, with proceeds heading for working

In June Emaar Malls sold a 10-year, $750m debut sukuk, which met with strong investor demand and picked up upon trading. The order book exceeded $5bn; pricing was at a profit rate of 4.56%.

capital and general corporate purposes.

Hong Leong Islamic Bank Bhd successfully issued the first, RM400m tranche of its subordinated Sukuk Ijarah, part of a RM1bn programme. It was priced at 4.80%, with a bid to cover ratio of

Saudi Telecom Co (STC) completed a 2bn riyal ($533m), 10-year debut sukuk issue, almost twice oversubscribed, with a floating profit rate of 70

nearly three times.

Pakistani conglomerate Engro Corp raised 1bn

basis points over 3mth Saibor.

rupees ($10m) from the retail market, as part of a 4bn rupee programme set up earlier this year,

Saudi Investment Bank (Saib) also raised a 2bn

said to be a rare example of a retail offering of

riyal, 10-year sukuk, as a reserves-boosting measure. The subordinated Islamic bond, adding to Tier 2 supplementary capital, allows the bank to buy back the paper at mid-term. Pricing was at 145 bps over 6mth Saibor.

sukuk.

Most recently, the UK issued its muchanticipated sovereign sukuk, with orders exceeding £2bn, some ten times the planned issue amount. The five-year offering has been

Similarly, Banque Saudi Fransi completed a 2bn

launched as part of an effort to boost London’s

riyal capital-enhancing sukuk, priced at 140 bps over 3mth Saibor. It too has an option for the bank to repay investors after the fifth year, and was

position as a centre for Islamic finance rather than essentially for funding needs. The profit rate was set at 2.04%, in line with conventional

priced at 140bps over 3mth Saibor.

gilts of similar maturity.

Saudi Arabia’s National Petrochemical Co (Petrochem) issued a 1.2bn riyal debut sukuk, with a

Page 22

Sources: KFH, GIC, Reuters

Notes

Page 23

Marwan Izzeldin Director m.izzeldin@lancaster.ac.uk Andrew Shouler Editor a.shouler@lancaster.ac.uk

Research Team Gerry Steele g.steele@lancaster.ac.uk Vasileios Pappas v.pappas@lancaster.ac.uk Marwa El Nahass m.elnahass@lancaster.ac.uk

DISCLAIMER This report was prepared by Gulf One Lancaster Centre for Economic Research (GOLCER) and is of a general nature and is not intended to provide specific advice on any matter, nor is it intended to be comprehensive or to address the circumstances of any particular individual or entity. This material is based on current public information that we consider reliable at the time of publication, but it does not provide tailored investment advice or recommendations. It has been prepared without regard to the financial circumstances and objectives of persons and/or organisations who receive it. The GOLCER and/or its members shall not be liable for any losses or damages incurred or suffered in connection with this report including, without limitation, any direct, indirect, incidental, special, or consequential damages. The views expressed in this report do not necessarily represent the views of Gulf One or Lancaster University.

Redistribution, reprinting or sale of this report without the prior consent of GOLCER is strictly forbidden.