Middle East: The Rise of Dual Tranche Bonds - Islamic Finance News


Middle East: The Rise of Dual Tranche Bonds - Islamic Finance News

December 2011

Middle East:

The Rise of Dual

Tranche Bonds



Trade on the




Too Hot to


Down but

Definitely Not Out











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Deputy Publisher

& Director

Nazneen Halim


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Scott Weber


Lauren Mcaughtry


Hasnani Aspari


Mohd Hanif Mat Nor


Norzabidi Abdullah


Mohamad Rozman Besiri


Sharine Malini


Andrew Cheng


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June Abu Zaid


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Rizal Halim Dahlan


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Sivaranjani Sukumaran

Sivaranjani .Sukumaran@REDmoneyGroup.com

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Faizah Hassan


Geraldine Chan


Carrying the Torch

It is evident that global market players are becoming increasingly aware of the

abundant resources the Middle East and the emerging markets of Asia have to

offer as a source of liquidity, natural resources, commodities and developing human

capital. Out of all these myriad opportunities, the Islamic fi nance sector is emerging

as one of the most significant. Amidst the global fi nancial cacophony the Middle

East, despite some domestic consternation in the UAE real estate sector and a

handful of Islamic bond defaults, is maintaining its edge over western markets in

terms of its strong credit rating and liquid sovereigns.

In terms of bank liquidity, the majority of Islamic banks in the Middle East have also

demonstrated healthy levels; holding cash reserves of up to 90%. As at 2008, the

Middle East countries (including Saudi Arabia, Bahrain, Kuwait, UAE, Qatar, Jordan

and Turkey) came up trumps in terms of asset growth and market share for Islamic

fi nance: all displaying double digit growth above 20% (ranging up to 65.8% in Qatar)

and possessing market share exceeding 10% in all countries (except for Turkey, at


However, in the case of the Middle East, it is not a lack of liquidity that is an issue,

but rather an issue with the proper management of these funds combined with a

relatively underdeveloped capital market in countries such as Saudi Arabia - which

ironically possesses the highest levels of liquidity within the GCC markets. Blame

it on bureaucracy or over-prudence, but a lack of secondary market activity could

prove to be the biggest hindrance to the growth of the GCC’s Islamic fi nance

industry. Already, Malaysia has superseded the GCC in terms of Sukuk issuance,

and continues to maintain its lead, with over 60% of Sukuk issuances in 2011

originating from the country.

With plenty of room for development in the infrastructure sector - ranging from

project fi nance, transport, ports and power, to education, telecommunications

and healthcare, as well as growth opportunities that have arisen from the recent

Arab Spring, the Middle East is a hotbed for domestic and foreign investment

opportunities. Its growing trade ties with the emerging markets of Asia such as India

and China also serve as a major growth factor for the GCC economies, and it is

gradually emerging from its shell: moving from being an insular economy to a global

one, with increasing cross-border and trade activity.

In this issue of Islamic Finance news Supplements, we delve into the complex and

unique business environment of the Middle East: exploring its dynamic political

movements and its impact on a growing economy, investor appetite and its enormous

growth potential.

Will the Middle East become the next torch-bearer for the global economy? It is

certainly not impossible.

Managing Director

Andrew Tebbutt


Managing Director

& Publisher

Andrew Morgan


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Tel: +603 2162 7800

Fax: +603 2162 7810


Nazneen Halim,



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should be addressed to the publisher.

While every care is taken in the preparation of this publication, no responsibility can be

accepted for any errors, however caused.

December 2011 1



4 The Rise of Dual Tranche Bonds

Middle East corporates and issuers are becoming

more inclined to issue Islamic tranches within their

conventional fi nancing facilities in a bid to attract

a wider investor base and to tap the more liquid

Islamic banks to meet their fi nancing requirements.


10 Cross-Border Trade on the Rise

Trade volumes between the Gulf and Asia have

tripled since 2004, and much of the incremental

demand for Gulf exports going forward is

expected to come from Asia. The Middle East is

also increasingly looking to the emerging markets

of Africa for new investment avenues and its

abundant untapped resources.

12 Unprecedented Opportunities

Escalating tensions and political uncertainty in

the Middle East and North Africa have caused

businesses to be put on hold, and investors are

jittery about the stability of this emerging market.

Which countries in the GCC region are set to

benefi t from the repercussions of the Arab Spring

as investors play musical chairs?

14 Too Hot to Handle?

Islamic banks across the globe, particularly in the

GCC, are sitting on a whole lot of cash. However,

aside from Saudi Arabia, many banks in the GCC

countries such as Kuwait are forced to export their

cash as a means to create equilibrium on their

balance sheets.

16 Takaful in the Middle East:

Gaining Traction

In the wake of the Arab spring, the Middle East

appears to have found a rallying call of solidarity

between members of the Arab league.

19 Down but Definitely Not Out

Unlike its arid surroundings, the Middle East has

been anything but dry on liquidity.


8 Case Study: First Gulf Bank Sukuk

The First Gulf Bank (FGB) recently issued a fi veyear

US$650 million Sukuk, marking the fi rst

Shariah compliant issuance by a GCC-incorporated

conventional bank.

21 The GCC Takaful Market:

Evolving Fast

Despite the slowdown, and a tough year for the

regional fi nancial industry that was affected mainly

by the socio-political uncertainties, the Takaful

market remains promising and is expected to be

a US$12 billion global industry by the end of 2011:

an increase of 31% from the fi gures achieved in

2010 as estimated by the World Takaful Report

2011 by Ernst & Young.

24 Bridging the Digital Divide

The rapid evolution and growth of the Islamic

banking and fi nancing industry has predicated

the need for Islamic fi nancial institutions to offer

increasingly sophisticated products and services in

order to meet the current and future expectations

of their customers.

2 December 2011


The Rise of Dual Tranche Bonds

Middle East corporates and issuers are becoming more inclined to

issue Islamic tranches within their conventional financing facilities in

a bid to attract a wider investor base and to tap the more liquid Islamic

banks to meet their financing requirements. NAZNEEN HALIM looks at

whether this trend is here to stay.

The recent issuance of the Satorp Sukuk, a joint venture

between state-run Saudi Aramco and French oil conglomerate

Total worth SAR3.75 billion (US$1 billion), marked the fi rst

project fi nancing Sukuk for Saudi Arabia, according to Saad

Rahman, an executive director at Crédit Agricole in Bahrain.

The deal worked because of Aramco Total’s credibility and

standing in the market — to the deal’s investors, it was almost

like taking up a quasi-government deal. However, the deal itself

took a while to structure due to its complexity and a relatively

more complicated process,” he explained.

The issuance was part of a larger fi nancing facility worth US$14

billion, and attracted much attention from the Islamic fi nance

arena and, more importantly, Saudi Arabian investors; who

prior to this were more inclined to invest in the conventional

debt market due to its fi xed-income returns and higher yield.

4 December 2011


The 14-year Shariah compliant offering achieved keen pricing of

95 basis points (bps) over six-month SAIBOR, meeting the tight

guidance of 95bps–105bps over the benchmark, mainly due

to the fi nancial and reputational support of its sponsors.“The

sponsors are guaranteeing this, so the risk factor is very low;

it’s a good investment and there’s a lot of cash in the kingdom,”

revealed Fawaz Nawwab, the chief executive of Satorp. The

greenfi eld development will process 400,000bpd of Saudi

heavy crude when fully operational in December 2013.

Perhaps the credit crunch is to some extent a blessing in

disguise for the world of Islamic fi nance: with corporates,

fi nancial institutions and international issuers seeking a wider

investor base and looking to tap into the more liquid Islamic

banks for fi nancing. According to a recent report by Kuwait

Finance House, Sukuk issuances in the GCC - previously

a relatively muted market for Islamic bond issuances - are

looking up in the next few years due to growing demand from

institutional investors, a longer-term appeal and increased

infrastructure spending plans throughout the region.

It is a well-known fact that Middle East investors are more

inclined towards investing in paper, which provides high

returns, and with global bond yields at an all-time low, Islamic

paper is becoming a more attractive option for investors

previously heavily involved in the conventional bond market.

Mohammed Paracha, an Islamic fi nance partner at Norton

Rose, explains that the issuance of Islamic paper alongside

conventional fi nancing facilities, as exhibited by Satorp and a

growing number of Middle Eastern corporates, is no longer a

matter of choice but a corollary of market conditions following

the 2008 fi nancial downturn. “As you know, the conventional

banking sector was substantially affected by the fi nancial

crisis in 2008 and had to write off huge losses. This

caused severe balance sheet problems and stricter

credit approvals, and resulted in credit crunch in

the market. In order to fi nd liquidity, corporates

in the Middle East¬ turned to Islamic banks to

meet their fi nancing requirements.

“As Islamic banks have been affected less than

the conventional banks by the fi nancial crisis,

they have been able to, to a certain extent,

increase their market share by fi lling the gap left

by their conventional counterparts.”

Chris Utting (caricature), a partner at law fi rm

White & Case, reveals a more socially responsible

spin to the reason behind the growing number

of Middle East corporates choosing to issue dual

tranche papers. “The local banking market in certain

Middle Eastern countries, Saudi Arabia for example, is

only willing to provide funds through Shariah compliant

structures. Companies hoping to have the greatest

liquidity and sources of capital will therefore ensure that

investors in such markets have an acceptable Islamic

structure. Often this is not enough, so it needs to be

combined with conventional facilities to raise the required

capital. In addition, many Middle Eastern corporates

based in predominantly Muslim countries consider the

use, to the greatest extent possible, of Shariah compliant

structures in their fi nancing as part of being good corporate


Another reason behind the use of Islamic fi nancing facilities

within conventional issuances is due to the unforgiving market

conditions in the Middle East and Europe at present, making

the issuance of straight Sukuk more expensive for corporates.

Islamic facilities enable these institutions to gain a better

pricing from banks as opposed to issuing Sukuk in the market.

However, in terms of pricing between conventional bonds and

Sukuk, Saad from Credit Agricole reveals that there is currently

not much discrepancy between the two.

A lack of standardized

documentation continues

to pose a challenge to the

structuring capabilities of dual

tranche issuances for

issuers and those involved

Both Islamic and conventional bank treasuries in the GCC are

becoming more keen on buying Islamic paper. However, the

dearth of Shariah compliant assets has been hindering Islamic

institutions from receiving a larger portion of the pie, and

because Islamic institutions tend to keep Islamic paper on their

books rather than taking advantage of the tradable

nature of the certificates, conventional investors

have previously shied away from tapping into the

more liquid Islamic market. However, the rise of

Islamic project fi nancing facilities is expected

to change this perception and create a more

active secondary trading environment.

“Project and infrastructure fi nancing involve

the construction and operation of large

assets, have some element of public utility,

and a correlation between the amount of the

fi nancing and the value of the assets, all of

which fi t well within the principles of Islamic

fi nance and appeal to Islamic investors,” said


Structural Challenges

A lack of standardized documentation continues

to pose a challenge to the structuring capabilities

of dual tranche issuances for issuers and those

involved, and the relative reluctance of Islamic

investors to be part of sharing and inter-creditor

arrangements with conventional lenders could

also hamper the popularity of such issuances.

However, increased education amongst Islamic

and conventional investors alike could potentially

alter such perceptions for the better, industry

experts believe.

Paracha also agrees that the issue of the sharing of

December 2011 5


security between conventional and Islamic banks acts as one

of the greatest challenges to the proliferation of dual tranche

issuances. “As Islamic structures usually require transfer

of ownership of property, assets or a project which is being

fi nanced, Islamic banks have direct rights to the secured assets

and this would place the Islamic banks in a senior position over

the conventional banks. In order to achieve pro-rata sharing of

the security, Islamic and conventional banks have to enter into

security sharing arrangements in order to overcome this issue

posed by Islamic structures,” he explained.

The project financing arena

needs a lot of cash and

multi-financing sources,

most definitely

The way forward

Project fi nancing is expected to lead the dual tranche issuance

arena in the Middle East, with the demand for infrastructure

fi nancing seeing consistent growth in the region over the past

few years. Having already established a healthy track record

with issuances by the Kuwait Paraxylene Production Company,

which included a US$347 million Islamic tranche within its

US$1.4 billion fi nancing facility, and Umm Al-Nar’s (an Abu

Dhabi government water and electricity plant) US$250 million

Islamic tranche - part of a US$2 billion issuance - among

others, the recent political upheavals in the Middle

East are also expected to pave the way for new

government-led infrastructure projects. “The

project fi nancing arena needs a lot of cash

and multi-fi nancing sources, most defi nitely,”

Saad revealed.

Paracha (caricature) is also bullish on the

prospects for Islamic fi nancing to be part

of the mega demand for infrastructure

fi nancing in the Middle East. “Islamic

fi nance is well suited to project fi nancing

of infrastructure assets. There is not

only a desire on the part of Islamic

banks to participate in the development of

infrastructure that will benefit society, but

also the compatibility of long-term funding

of assets sits very closely with Islamic fi nance

principles. That being said, we are generally

seeing more Islamic fi nance in the general

banking and structured fi nance market than in

project fi nance, which is a refl ection on the slowdown

of projects in the region at the current time.”

He also added: “In the past, the Islamic banks’

participations in facilities with conventional tranches

used to constitute only a small portion of the whole

facility. Now, we are seeing sizeable transactions

fi nanced only by Islamic banks. In that regard, the share

of Islamic banks in facilities with conventional tranches is

increasing and this trend will defi nitely continue. Don’t

forget that conventional banks with Islamic

windows also participate in the Islamic

tranche, which allows even larger ticket


Utting is also confident that dual tranche

issuances will continue to be a regular feature

in the fi nancing arena; and its popularity is

expected to grow not only in the Middle East, but

also in emerging markets due to its diversity and

ability to appeal to a much broader investor base.

“Financings of corporates or projects based in the

Middle East are likely to continue using at least one

tranche of Shariah compliant fi nancing. The interesting

development to follow will be the increasing use of

Islamic structures by investors who are investing in

countries outside the Middle East, such as in Europe

or some of the predominantly Muslim former Soviet

republics. Clearly the more Islamic debt there is,

the greater will be the potential for secondary market

trading,” he concluded.

6 December 2011


Case Study: First Gulf Bank Sukuk

The First Gulf Bank (FGB) recently issued a five-year US$650 million

Sukuk, marking the first Shariah compliant issuance by a GCCincorporated

conventional bank. FGB was able to effectively tap the

Islamic pool of liquidity through this issuance, allowing the bank to

aggressively price its first US dollar issuance since 2009. Ahsan Ali

shares his experience.


First Gulf Bank


FGB Sukuk Company

Standard Chartered role Joint arranger and bookrunner

Other participating banks Citi and HSBC

Obligor Rating

‘A2’ (Moody’s) / ‘A+’ (Fitch)


Senior, unsecured


Regulation S

Pricing Date 26 th July 2011

Settlement Date 2 nd August 2011

Issue Size

US$650 million

Maturity Date 2 nd August 2016

Issue Price 100%

Profit Rate

3.797% p.a.


London Stock Exchange

Governing Law

UAE and English Law


This transaction was a landmark trade, as it marked the fi rst

Sukuk issuance by a conventional GCC-incorporated bank,

allowing FGB to effectively capitalize on the supportive supply/

demand dynamics prevailing in the Islamic capital markets.

The structure allowed FGB to capture a wide investor base,

including conventional investors. Conventional investors

have been more willing to participate in Sukuk issuances,

given their strong performance in the secondary market.

This issuance also marked the fi rst offering by an Abu

Dhabi-based fi nancial institution and allowed FGB to raise

its funding despite continued market volatility (resulting

from both the Arab Spring and the Euro-area crisis).

The Islamic structure enabled FGB to reduce its execution risk

by benefiting from anchor orders from key Islamic accounts

(which were effectively targeted through a pre-marketing


8 December 2011



The GCC banking sector is characterized by a maturity mismatch

in its assets and liabilities. As such, fi nancial institutions from

the region have been increasingly looking to international debt

capital markets to raise term funding.

FGB’s objective was to raise benchmark funds (i.e. US$500

million and above). As such, an issuance in the international

markets was recommended.

Given the market conditions prevailing at the time, FGB sought

to minimize execution risks. This objective was addressed

through both the Islamic structure (which allowed for the

participation of a wider investor base) and the pre-marketing

exercise (through which anchor orders were secured prior to

the launch of the trade).

Our partnership: An unwavering commitment to

clients in every market

FGB is a leading bank in the UAE and thus wanted the execution

of this transaction to reflect its standing in the industry. Standard

Chartered Bank was instrumental in the success of this trade

by providing Islamic structuring guidance and by ensuring that

the relevant investor base was targeted early in the process.

Ultimately, the success of the issuance was refl ected by the

order book size (US$3.8 billion) and the balanced distribution

profi le of the trade.

Sukuk structure

On the issue date of each series of Sukuk, the Issuer shall

(i) pursuant to the Wakalah Purchase Agreement using

a portion of the Sukuk proceeds purchase from FGB a

portfolio of non-real estate Ijarah assets, receivables under

Murabahah contracts and/or any other Shariah compliant

income generating assets (the “Wakalah Portfolio”) and

(ii) invest the remaining portion of the proceeds with FGB

as Mudarib for purposes of investing in real estate and

non-real estate Ijarah assets (the “Mudarabah Portfolio”).

The returns generated from both portfolios shall be used to fund

the periodic distribution amounts payable under the Sukuk. For

the avoidance of doubt, the Rab al Maal acknowledges that there

is no guarantee of any return from the Mudarabah Portfolio.

In case there is a shortfall in the periodic distribution amounts

payable to the Sukuk holders, the Managing Agent may provide

a Shariah compliant liquidity facility to fund such shortfall. The

liquidity facility is repayable by the Issuer to the Managing Agent.

Upon maturity or the occurrence of a Dissolution Event, FGB (i) as

Mudarib shall liquidate the Mudarabah Portfolio and (ii) will undertake

to purchase the Wakalah Portfolio from the Trustee pursuant

to a Purchase Undertaking issued by FGB in favor of the Trustee.

Deal structure

The Islamic structure for the transaction was innovative, as it

combined Wakalah and Mudarabah principles, allowing FGB (a

non-Islamic bank) to effectively issue Shariah compliant notes.

The acceptability of the Islamic structure was reflected by

strong investor demand that followed the pre-marketing and

marketing exercises.

Ultimately, the transaction saw orders from over 200 accounts

and allowed FGB to price the issuance inside the initial price


Our response

Standard Chartered Bank was instrumental in convincing

FGB to establish a Sukuk program (the bank already

had in place a conventional Euro medium-term notes

program) in order to allow the bank to capitalize on the

add-on anchor demand afforded by Islamic investors.

Given the primarily conventional nature of FGB’s

banking operations, the Islamic structure was not as

straightforward as that of an Islamic bank. Standard

Chartered Bank’s expertise in Islamic fi nance was crucial

to the effective structuring of a Shariah compliant model.

While the client ultimately established two programs (one

conventional and one Islamic), the decision was taken to issue

only under the Sukuk program to target the widest possible

investor base.

Outcome and market impact

This transaction marked the last international offering out of the

region, with the last three GCC companies that approached

the market doing so via conventional bond offerings. These

companies were unable to raise funding at their target levels,

highlighting the effectiveness of having an Islamic structure.

Given the success of this trade, a number of non-Islamic entities

from the region are looking to raise funding through Sukuk

issuances. This trade has thus set a strong market precedent.

The bank was able to price the trade at a tight spread (US dollar

midswap + 200 basis points) and allowed FGB to raise term

funding in the process.

The strong performance of Sukuk paper compared to

conventional notes in the secondary market also provides a

more effective pricing benchmark for FGB’s future issuances.


Standard Chartered Bank is committed to the development

of regional debt capital markets and has been a driving

force behind the strategic initiative in the region to market

international capital markets fi nancing as an integral part of the

funding platform for leading credits in GCC. In addition, we are

keen to develop the Islamic fi nance industry, as it will enable the

participation of wider investor and issuer bases in international

markets. This transaction is a testament to our commitment to

both these initiatives.


Ahsan Ali is the managing director and head of Islamic

origination at Standard Chartered Saadiq

December 2011 9


Cross-Border Trade on the Rise

Trade volumes between the Gulf and Asia have tripled since 2004,

and much of the incremental demand for Gulf exports going forward

is expected to come from Asia. The Middle East is also increasingly

looking to the emerging markets of Africa for new investment avenues

and its abundant untapped resources. Trade finance, NAZNEEN HALIM

learns, is on a positive path.

Oil consumption in Asia alone, analysts predict, is expected

to rise by 4.4% annually over the next fi ve years, and it is

expected that two-thirds of the world’s economic growth will be

generated by emerging markets in the next fi ve years. Come

2015, emerging markets are projected to account for 41% of

global GDP, compared to an estimated 32% in 2011.

Previously, countries in western Europe and North America

monopolized trade with the GCC: accounting for 85% of total

trade fl ows. However, since 2009, the emerging markets of

Asia have accounted for 45% of GCC trade, growing by 11% on

average, thus superseding the western economies which are

seeing 5% growth in trade per year with the GCC. According

to data from Dealogic, cross-border fl ows into Asia from the

Middle East reached US$4.38 billion in 2010, comprising 16


Industry players are growing more optimistic about the

channelling of GCC investments into Asia and Africa: particularly

via infrastructure development projects and African agricultural

land projects, and many of these are expected to be fi nanced

in a Shariah compliant manner. The increase of infrastructure

development projects is expected to occur predominantly in

the emerging markets of Asia, due to its growing population, as

10 December 2011


well as in North African countries: specifi cally Egypt, Libya and

Tunisia- all of which were affected by the recent Arab Spring.

At the recent World Islamic Economic Forum, it was revealed

that total trade fi nance among the 57 OIC members, which

include Saudi Arabia, Malaysia and Turkey, is expected to reach

US$4 trillion by 2012; making up one-third of the current US$12

trillion global trade fl ows. Tourism and telecommunication are

also high growth areas in Asia which have begun to entice GCC

investors, while average income countries such as India and

Malaysia have become prime choices for high net worth GCC

investors looking to invest into financial institutions.

There is a natural affinity

in the Middle East and Asia

for Islamic finance, but of course

there has to be a genuine growth

story for any investor

There is a natural affi nity in the Middle East and Asia for Islamic

fi nance, but of course there has to be a genuine growth story

for any investor. For Middle East investors, the key concerns

are returns and strategic reasons, such as the relationship

between countries and how it fi ts into their investment agenda,”

an analyst revealed.

The Islamic Trade Finance Corporation, an arm of the IDB,

also recently offered up US$400 million to help Egypt fi nance

imports of petroleum products, wheat and other foodstuffs;

to help revive the Egyptian economy post-Arab Spring. The

Egyptian government forecasts a defi cit of 8.6% of gross

domestic product in the year to June 2012, although some

economists expect this number to be bigger.

Industry players are also becoming increasingly aware of

the importance a standardized regulatory framework in order

to promote the cross-border fl ow of deals and to create

an internationalized Islamic banking system. Hussain Al

Qemzi, CEO of Noor Islamic Bank, commented: “If we are

to challenge the conventional banks’ entrenched position in

international fi nancial deals, we must develop the capacity to

structure multi-currency and cross-border transactions and to

build scale.

To do that we need to build deeper relationships between the

key markets and between individual banks, so that we are

better placed to compete on a global scale.”

The time has come for us to stop focusing on our differences

as reasons for not doing business. It is time to talk about how

Islamic fi nance can contribute to long-term inclusive, equitable

and sustainable economic growth not just in Muslim countries,

but in every country across the globe,” he added.

With Middle East institutions such as Elaf Bank and AlKhair

Investment Bank (previously known as Unicorn Investment

Bank) being the latest entrants to the Southeast Asian market

via Malaysia; following Dubai Islamic Bank’s 60% acquisition of

Bank Islam in 2006, it is evident that interest in growing crossborder

capabilities and reaching a new investor segment is

high on the agenda of these banks. With a more standardized

outlook on regulations and tax allowances for Islamic

instruments, there is no doubt that cross-border trade between

the Middle East and the rest of the world is set for positive


December 2011 11


Unprecedented Opportunities

Escalating tensions and political uncertainty in the Middle East and

North Africa have caused businesses to be put on hold, and investors

are jittery about the stability of this emerging market. Which countries

in the GCC region are set to benefit from the repercussions of the Arab

Spring as investors play musical chairs? NAZNEEN HALIM explores.

The political uprisings in Bahrain, Egypt, Tunisia and Libya

earlier in the year have caused investors to re-evaluate the

viability of doing business in the region, and the tense business

climate has already caused some major setbacks in Bahrain:

including the cancellation of the cash-generating Formula One

race with an estimated loss of up to US$100 million in revenues

as a direct result of the cancellation, as well as millions more

potentially lost to closed businesses and tourism.

Several months on, and although the dust seems to have

provisionally settled in Bahrain, Egypt and Libya - with the

Gaddafi and Mubarak regimes successfully ousted, and the

Bahraini ruler reaching a tentative middle ground with his

people - Tunisia and Syria are still undergoing violent clashes

at time of press. With the region still unstable the question

that lingers for Islamic fi nance is: how badly has the uprising

affected investor and market sentiment, particularly in Bahrain,

once the bastion of the GCC fi nancial sector?

Recently it was revealed that a handful of international

companies with Islamic fi nance capabilities based in Bahrain

have begun moving their operations to neighboring Dubai;

mainly due to the emirate’s relative stability, well-regulated

banking and fi nance system, and a geographic placement

which enables institutions to retain access to their investors

in the region. Affi rming this, a Kuwaiti-based analyst revealed:

“Because of unrest, Bahrain could become a less attractive

destination in which to live or do business. Early indications of

this are already happening, with foreign companies calling back

their employees and expats starting to move out as well.”

The problem with perception

Bahrain’s fi nancial industry currently contributes up to 25% of

the kingdom’s GDP, and as at December 2010 it held assets of

around US$222 billion. As a result of the clashes, the kingdom’s

ratings were downgraded from ‘A-‘ to ‘BBB’ by international

rating agencies including Fitch and Standard & Poor’s. In

12 December 2011


August of this year, however, Fitch removed the kingdom from

its negative watch: refl ecting the agency’s view that the nearterm

risks to the political and economic outlook have abated

following the lifting of the state of emergency on the 1 st June


Commenting on the ratings downgrade and current investor

sentiment on Bahrain, Khalid Howladar, a senior vice

president at Moody’s, stated: “The performance of most banks

everywhere is driven by the operating environment of the

countries in which they operate. Most of the Bahraini banks

are not very geographically diversifi ed, so are very dependent

on Bahrain’s economy and prospects. The recent disturbances

and the ongoing uncertainties have damaged business and

consumer confi dence. Real estate prices have also been

further affected. As such, most banks have been negatively

impacted in terms of asset growth and asset quality, although

we see some signifi cant variations between banks.”

Howladar also added that current investor sentiment towards

Bahrain is still mired in negativity due to relative uncertainties,

compared to other prosperous and stable GCC countries such

as Qatar or the UAE.

An industry observer commented: “The [fi nancial] sector has

already felt the pain with stock markets closing down, the

central bank operating from a different location, and a rating

cut on the central bank and sovereign fund.”

Dubai has taken a bit of

hit in recent years but

growth in Abu Dhabi is showing

the strength and benefits of the

federal nature of the


However, on a larger scale, Dr Raghu Mandagolathur, a senior

vice president at the Kuwait Financial Center (Markaz), assured

Islamic Finance news that there are no signs yet of the wider

GCC economy being affected. “Spending plans announced by

governments should keep the economic momentum going. The

region’s oil exporters will gain because of rising oil prices, which

will increase their ability to fund infrastructure investments.

The unrest could stall investments in the medium-term, but

investors will always return if they see compelling investment

opportunities. Investors will only really start worrying if protests

are prolonged and if foreign countries intervene, like what

happened in Libya,” he said.

A silver lining

Who is expected to benefit from the exodus of business from

Bahrain; and although Islamic fi nance players are eagerly

awaiting the stabilization of countries such as Libya and

Egypt in order to capitalize on infrastructure and development

opportunities, which countries in the meantime are expected to

continue on a positive growth trajectory as an indirect result of

the Arab Spring?

Analysts believe that out of the GCC economies, Dubai and

Qatar are set to benefit from their neighbor’s troubles. Howladar

affi rmed: “I think the UAE has been the main benefi ciary so far

given the excellent infrastructure and critical mass of [cheap]

housing, businesses and services. Dubai has taken a bit of hit

in recent years but growth in Abu Dhabi is showing the strength

and benefi ts of the federal nature of the country.”

Cesar Perez, the chief investment strategist for JP Morgan

Private Bank EMEA, also pointed out that: “The slump in the US

dollar may help to partly offset the impact of uprisings gripping

parts of the Gulf on investment and tourism... Gulf states

pegged to the greenback may benefi t as foreign investors and

tourists seek to take advantage of cheaper property rates and

cut-price holidays.

“Dubai, which has sidestepped the unrest sweeping Bahrain,

may see a rise in investor interest as a comparative safe

haven. The dollar is normally seen as a safe haven; but this

time around it has not been the case. Out of the turmoil, one of

the beneficiaries will be Dubai as it will be seen as a hub even

more than before,” he said, adding that: “A cheaper US dollar

will increase the amount of interest in Dubai as investors from

Europe, Asia and the UK fi nd that UAE investments provide a

greater return.”

The indelible thread between politics and the economy has

become more apparent after the unrest in the Middle East.

While rising oil prices have buoyed the affected countries, it

is ultimately public perception that attracts or drives investors

away. Howladar believes that political risk is becoming an

increasingly important factor in determining business dealings:

“Stability of the operating environment is a critical factor for

economic growth, businesses and banks,” he stated.

December 2011 13


Too Hot to Handle?

Islamic banks across the globe, particularly in the GCC, are sitting on a

whole lot of cash. However, aside from Saudi Arabia, many banks in GCC

countries such as Kuwait are forced to export their cash as a means to

create equilibrium on their balance sheets. NAZNEEN HALIM explores

the question of liquidity management in the Middle East.

Perhaps it is both a blessing and a curse that Islamic banks

are more liquid than their conventional counterparts in terms of

deposits and cold hard cash. In a recent report, it was revealed

that Islamic banks are on average 38% more liquid than

conventional banks in terms of liquid assets as a percentage

of deposits and short-term funds. However, their lower loanto-deposit

ratio indicates that Islamic banks are not generating

suffi cient fi nancings and loans from their deposit bases; and a

generally lower interbank ratio is also evidence of the inability

of Islamic banks to deploy their excess liquid assets into loans

to other banks, due to an under-developed Islamic interbank

money market. In other words, there are currently more Shariah

investors who want to place money in Islamic banks than there

are instruments that can effi ciently transfer the money to the

asset side of the bank’s balance sheet.

And despite liquidity management being the crux of any robust

fi nancial system, it is ironic that the Islamic fi nance industry

is sorely lacking in this department. “There are no crossborder

liquidity products existing today which are truly Shariah

compliant. Without liquidity instruments, you cannot have a

healthy and systemically safe fi nancial system. Liquidity is

indispensable; and it is a signifi cant shackling for the Islamic

fi nancial system to not have liquidity instruments that are crossborder

in nature. We need cross-border products because

fi nancial institutions are globally linked, and the demand for this

is enormous,” revealed Hooman Sabeti, a partner at Allen &


According to a 2009 report by the International Islamic

Financial Markets (IIFM) on liquidity management, a typical

balance sheet of an Islamic fi nancial institution in the GCC

shows a higher asset-to-liability ratio, with more short-term

instruments compared to long-term issuances such as Ijarah

investments and Mudarabah receivables. Recognizing this,

jurisdictions have rolled out short-term Sukuk programs; such

as Bahrain’s program started in 2001 via the Central Bank of

Bahrain. However, across the board, most Islamic banks have

not been successful in addressing the main arena of liquidity

management: the very short-term or overnight segments.

14 December 2011


Most Islamic banks in the Middle East are currently facing an

asset-liability gap, with a shortage of long-dated assets that align

with the long-term nature of the investments, and vice versa. An

industry player explained: “While the banks’ main investments

are long-term such as in Sukuk or project fi nancing, their main

funding source is short-term; from customer deposits. The

result is a maturity mismatch. With a shortage of longer-dated

assets and interbank liquidity, the industry faces the challenge

of creating an infrastructure that could support liquidity

management strategies and capture the opportunity provided

by the Islamic fi nance sector’s large capital pools. There is

now a growing focus across the industry to facilitate greater

interaction and linkages among Islamic fi nancial institutions to

boost cross-border Islamic liquidity management.”

Standardization woes

In almost every aspect of Islamic fi nance there is a call for

standardization: be it on the regulatory front, Shariah auditing,

capital markets or corporate governance. Unsurprisingly

therefore, liquidity management is also experiencing calls for

consistency. As banks are becoming more globally linked,

and Middle East investors are increasingly curious about the

emerging markets of Southeast Asia, industry players are

beginning to recognize the growing need for standardization

in a bid to create a global interbank money market, facilitate

investments and allow fl uid cross-border transactions.

Even on the domestic front, GCC bankers admit that there

is hardly any interbank money market movement to allow

for greater investment opportunities and disbursement of the

liquidity sitting in their coffers. “Why is it that the legal and

regulatory requirements are still unavailable to institutions

looking to establish a Shariah compliant platform, while this

is so easily done in conventional banking? We need proper

planning from the start to enable domestic and cross-border

liquidity management. Currently there are no proper instruments

to manage internal liquidity. There has to be proper

structures put in place; and this needs to be driven by the

regulators and private sectors together,” an industry player


There are currently more than 25 liquidity management instruments

available globally, but more than 70% are commodity

Murabahah based. “Except in Sudan and Iran where there is

no commodity Murabahah, the main instruments for liquidity

management are based on this concept,” explained Dr Aznan

Hassan, a Shariah scholar and assistant professor at the International

Islamic University Malaysia. “Even the recently issued

certifi cate of deposits in the UAE, which are forecasted

to attract more than US$2.7 billion in investments, are based

on commodity Murabahah. It is easy to utilize commodity Murabahah,

but we are also replicating conventional money market

instruments, and you cannot liquidate when you want to. Even

though some scholars have suggested the use of Bai Al Dayn,

there is still some cost incurred,” he added.

A GCC-based investment manager revealed that there is defi -

nitely demand for liquidity management products, particularly

amongst the Islamic client base. “One of the things they would

like to see is an instrument that is fl exible and allows them customization

to be compliant with their Shariah board, as well as

deal documents that can accommodate regulatory issues in the

jurisdictions that we serve. Our clients are interested in dealing

in highly rated, highly qualifi ed, very strong fi nancial institutions,”

he said.

Recognizing the need for standardization in the liquidity management

sector, bodies such as the IIFM and IFSB have produced

documents intended to offer guidance for regulators

and market players alike. The recently drafted IFSB Guideline

for Liquidity Risk Management also reveals a pressing

need for Islamic banks to get their act together to be able to

conform with the Basel III requirement standards. “The IFSB

makes a full acknowledgement of the international efforts

to make regulatory reforms at a broader level, including the

major areas of concern such as capital adequacy and liquidity

risk. This set of guiding principles complements various

international publications related to liquidity risk management

– many of which were revised following the fi nancial

crisis – issued by, inter alia, the Basel Committee on Banking

Supervision, the Committee for European Banking Supervisors

and the International Organization of Securities Commissions.

“Most importantly, the initiative by the Basel Committee to

develop two international liquidity standards as part of a global

regulatory toolkit is a signifi cant development in this respect.

The IFSB is working on the preparation of a separate Guidance

Note on quantitative tools for the measurement and monitoring

of liquidity risk in Islamic fi nancial institutions, in line with

industry practices and other global initiatives; including the

Basel III liquidity standards.”

IIFM’s Master Agreement for Treasury Placement also intends

to streamline the sector by including solutions based on widely

accepted Shariah rulings, to reduce transaction costs and to

improve documentation standards and mitigating legal hiccups.

The establishment of the International Islamic Liquidity Management

Corporation (IILM), by the IFSB in late 2010 also aims

to facilitate more effi cient and effective global liquidity management

solutions for Islamic fi nancial institutions and facilitate

greater cross-border investment fl ows via the issuance of Shariah

compliant instruments.

Regulatory power

However, despite the concerted efforts among Islamic banking

players and standard-setting bodies, it ultimately comes down to

jurisdictional legal issues and regulatory requirements. In most

Islamic countries, industry players admit that the engagement

of central banks is still minimal, and these institutions mainly

engage in monetary policy and do not address liquidity

shortages pertaining to the lack of a lender of last resort for the

Islamic fi nance industry.

There is evidently the need for a stronger form of liquidity

management agreement between all fi nancial centers; or at

least between the Islamic countries and IFSB members; and

ultimately the protagonists in this scenario are the regulators

and governments. With the right amount of impetus from the

industry, there is no doubt that these regulators will begin to

take heed.

December 2011 15


Takaful in the Middle East:

Gaining Traction

As Takaful continues to maintain its tremendous growth trajectory

across multiple regions, SCOTT WEBER observes how Takaful uptake

is faring across the Middle East.

In the wake of the Arab spring, the Middle East appears to have

found a rallying call of solidarity between members of the Arab

league. In fi nding this voice they have become increasingly

vocal in their discussions between members, setting the scene

for unprecedented levels of action and cooperation in what has

historically been a turbulent region with regards to socio-political

unrest. This increasing cooperation has to some extent begun

to vindicate the region in the eyes of regional and international

business and will help promote the continued growth that the

region is desperate to build upon as it seeks to diversify away

from oil and gas.

If this uncertainty continues it will hamper growth prospects

across all sectors of the economy; particularly direct foreign

investment and real estate, which directly impact on the

insurance and fi nancial sectors of any economy. However,

this does mean that the populace will be keener to protect

themselves, particularly through life insurance and Family

Takaful coverage.

Growing fi nancial requirements, coupled with political unrest in

the region, have put the Takaful companies under increasing

pressure due to their limited fi nancial fl exibility. Companies

are beginning to face the dual crises of increased capital

requirements and diffi culty in raising capital as a result of the

socio-political unrest in the region.

Return to growth

While the insurance sector has been resilient and has continued

to register modest growth, it is Takaful that continues to steal

the limelight, and its 32% year-on-year growth rate continues to

offset reductions in the conventional sector.

The GCC insurance industry remains relatively small, with low

levels of insurance penetration and density. While this points

to the size of the growth opportunity, GCC insurers continue

to face a number of challenges. The insurance industry in the

GCC is highly competitive, with predatory pricing in the region

negatively impacting on profi tability and growth. The region

also suffers from a signifi cant number of small insurers that lack

suffi cient capitalization and skills to underwrite or invest funds.

The region therefore is highly dependent on reinsurers and is

ripe for consolidation.

Economic growth is the single most important driver of current

insurance business in the GCC and insurers need to gear up

to capitalize on the growth potential of the region’s insurance

sector. This growth is also aided by increased government

spending due to budget surpluses attained through high oil

prices and state-led diversifi cation.

The increasing acceptance of Takaful in the GCC as a whole

has led to increased insurance penetration. T M Lakshmanan,

the chief operating offi cer at Alpen capital, noted that: “Overall

the outlook for the insurance sector in the GCC region remains

positive,” going further to state that: “While regional valuations

are attractive, low insurance penetration and density refl ect the

opportunities for companies in the sector to position themselves

strategically for periods of high growth.”

Critically, this tremendous growth trajectory has been slightly

skewed by the growth of the Takaful industry rather than

underlying demand for Islamic insurance products. To ensure

the Takaful sector’s longer-term viability, operators need to

focus on product differentiation as opposed to competing on

price. Takaful is expected to remain among the fastest growing

segments of the insurance markets. The ability of Takaful

operators to increase insurance penetration is critical to that


Telling figures

The GCC has one of the lowest penetration and density rates

in the world with insurance penetration in the region much

lower than the global and emerging market average. While the

penetration rates for the GCC as a whole have increased - from

16 December 2011


0.6% in 2000 to 1.3% in 2010 - they remain signifi cantly lower

than the global average of 6.9%.

Given the high correlation of insurance penetration levels

with GDP, the low regional penetration and density levels

underscore the signifi cant growth potential of the rapidly

growing economies in the GCC.

The insurance sector at large has a strong positive correlation

with GDP. The IMF estimated real GDP growth for the region

at 17.8% in 2010, up from a negative 18.8% in 2009. The

region also demonstrates favorable demographics, with

a young population and rising birth rates. Alpen Capital

estimates that insurance premiums in the GCC currently stand

at approximately US$18 billion in 2011 and will rise to US$37

billion by 2015, registering a combined annual growth rate

(CAGR) of 20%.

The UAE and Saudi Arabia are likely to remain the two biggest

markets in the region and are predicted to hold a 75% combined

share by 2015; a slight reduction from the current level as other

GCC states such as Qatar which continues to register higher

growth rates of up to CAGR 30% in the coming years. Saudi

Arabia registered the highest penetration of 1.04%, followed by

Bahrain at 0.45%.

Increasing acceptance of Takaful will continue to provide a

strong growth impetus to the insurance sector as a whole,

having increased by 31% in 2010 on a year-on-year basis.

Ernst & Young estimates that the GCC Takaful market will

continue to grow at 31%, reaching US$8.3 billion in 2011.


Kuwait has the lowest degree of insurance penetration in the

GCC. However, Takaful companies in Kuwait have been able

to prove their presence in the competitive domestic insurance

market, successfully acquiring approximately 34% of the

domestic market share of the total insurance premiums.

Presently, there are 11 Takaful companies in a local market of

30 active insurers and despite the slow growth and saturation

of the marketplace, most Takaful operators have demonstrated

an ability to weather the impact of the global fi nancial crisis

and have shown less reduction in total underwritten insurance

premiums compared to conventional companies.

However over the past six years the increase in the number of

insurance companies has accelerated faster than the growth

of overall insurance premiums. Mergers are certainly required,

to avoid congestion in the market and ensure full return on

collected premiums. Due to the small domestic market and

the increasing fi nancial strength and market share, many

Takaful companies in Kuwait have also begun to compete with

conventional insurance offerings.

The insurance industry in Kuwait has shown an increase in

total gross premiums to reach KWD206 million (US$750.5

million) with Takaful accounting for at least 28% of the total.

The Kuwaiti insurance sector is also expected to continue

its growth trajectory in 2012, where the insurance sector will

witness a signifi cant improvement in performance due to a

scheduled state development plan that amounts to US$107

billion over the next four years. The growth in the insurance

sector in 2011 is expected to increase 10%, to reach KWD318

million (US$1.16 billion) in 2014.

While there have been numerous attempts to implement laws

and decrees governing the insurance and Takaful sector.

Majed Al-Ali, the general manager at Wethaq Takaful Insurance

Company, has stated that the Kuwaiti insurance market is in

need of an independent insurance authority, new insurance

laws, and regulatory decisions that are commensurate with

international standards. Al-Ali adds that only when the correct

oversight and governance is in place “will it push the insurance

sector to higher levels.” There have also been calls from the

Kuwaiti commerce ministry to impose a law requiring insurance

companies to obtain a solvency rating to improve their

reputation within the Kuwaiti insurance market.

Mergers are certainly

required, to avoid

congestion in the market and

ensure full return on

collected premiums


Until recently Oman was the only member country in the GCC

that did not provide for Islamic fi nancial institutions. It is hoped

that the recent introduction of Islamic fi nance in the country

will bring a greater range of fi nancial inclusion and boost the

domestic banking sector in the process.

The decision to allow Islamic fi nancial institutions in Oman has

been broadly welcomed, following the government’s approval

of Islamic banks. As a result of this, clear opportunities have

arisen for the Takaful industry.

The Omani public has accepted conventional banking and

insurance when forced to by law, as in the case of compulsory

motor insurance or banking loan coverage. It has however

become clear that Omanis will be motivated to access the

Islamic fi nancial market and explore new business opportunities

once the option is made available to them.

Oman, as a result of its late start, has the opportunity to learn a

great deal from its peers. As a late entrant into Islamic fi nance

and Takaful, it has the opportunity to macro-manage the

industry and fully capitalize on Islamic banking and Takaful’s

ability to generate a deeper fi nancial market.

Regulators in Oman have unequivocally stated that there will

be no Takaful windows, having seen the consequences in

neighboring countries such as Qatar, Bahrain and the UAE,

where more than one Takaful company in the market can put

pressure on what is already a very fragmented industry.

December 2011 17


Al Madina Gulf Insurance recently received approval in

principle from the Omani Capital Market Authority (CMA) to

convert itself into a fully fl edged Takaful business. The CMA

is also actively looking at the regulatory models of different

regional markets to come up with the most suitable framework

for Takaful fi rms.

Tayseer Treky, CEO at Oman Reinsurance Company (Oman-

Re), hopes that the CMA will issue further Takaful operation

licenses in Oman, believing that the arrival of Takaful companies

will help to tap some hidden resources in the sultanate

and that this will lead to a growth in premium income. Treky

also announced that OmanRe will extend their services and

increase capacity in order to provide full re-Takaful coverage,

saying that: “We are currently cooperating with a number of

companies and will be delighted to cooperate with insurance

companies offering Takaful.”

Saudi Arabia

The Saudi Arabian insurance industry has emerged as one

of the fastest growing insurance industries in the world, and

has exhibited tremendous growth during the past few years,

providing lucrative opportunities for both existing players and

new market entrants; specifi cally in the area of motor insurance

which, according to research group RNCOS, will grow at a

CAGR of over 33% during 2011-2013.

In terms of relative maturity and the depth of its internal

processes, Saudi Arabia’s insurance industry has a long

way to go before its full potential can be attained. While

the kingdom has been a pioneer in terms of the adoption of

mandatory minimum health insurance, it has lagged behind in

creating opportunities for some of the other key lines, such as

compulsory motor insurance.

The outlook for the Saudi Arabian insurance sector is highly

optimistic, however, as there is strong inherent growth potential

within the market. Recent fi gures from Ernst & Young support

this assertion, claiming that Saudi Arabia is the largest Takaful

market in the GCC with nearly US$8.9 billion in contributions

over the course of 2010.

The country is also expected to see the largest growth going

forward, as favorable demographics push it forward while

oversaturated insurance markets in neighboring countries

hinder growth. Should the Saudi Arabian authorities be able

to offer a well-regulated domestic insurance sector, it will

prove to be a welcome external market for many of the larger

Takaful players in the UAE and Bahrain, not to mention the

larger international players faced with increasing domestic


Distribution lessons

The success of the Middle Eastern banking industry has shown

that its participants understand issues relating to distribution

better than their insurance counterparts. This has been

compounded by a lack of critical mass in many of the GCC

states and, over the years, a fragmentation of the industry. The

problems of distribution, critical mass and fragmentation have

affl icted the Takaful industry.

A detailed study carried out by McKinsey on Islamic fi nancial

services has shown that for an Islamic business model to

work well, Islamic fi nancial products must have a broad-based

appeal. Takaful business will not be feasible if its marketing

focuses on Muslims only. It has to appeal to the community

at large through its core principles of transparency, ethical

investment and equity.

Early days

Ultimately the Takaful industry in the Middle East continues

to offer a viable alternative to the 36.1 million Muslims across

the region. Any nascent industry will prove challenging in its

formative years and Takaful is no exception. The industry

continues to raise numerous issues and provide challenges

to all those involved, however the raw fi gures and economic

prospects in the GCC region verify that Takaful is holding its

own and will continue its growth trajectory in the short-term.

Tellingly, few if any Takaful operators have failed during the

recent economic downturn. While business models have had

to be reigned in and recalculated, their Takaful proposition

and ability to capture a previous untapped segment of the

marketplace has allowed them to continue. There are numerous

issues that continue to face the Takaful industry across the

Middle East, however: primarily a lack of awareness of the

alternative Takaful proposition as well as a lack of critical mass

being achieved by the numerous and fragmented operations in

the region.

As an emerging industry a number of associated risks also

continue to constrain the Takaful industry. These include rising

competition between operators, and an alignment into direct

competition with the conventional insurance industry through

product replication. The industry continues to be fragmented,

with a high number of smaller entities entering the market with

limited capital and a lax attitude to coverage due to insubstantial

regulatory frameworks. However, as these companies grow the

awareness and number of participants is only likely to increase.

Takaful in the Middle East has gained traction and is looking to

build its momentum.

18 December 2011


Down but Definitely Not Out

Unlike its arid surroundings, the Middle East has been anything but dry

on liquidity. RAPHAEL WONG looks at investor sentiment post-Arab

Spring, and its impact on the current tremulous economic conditions.

The Middle East was a thriving region prior to the global

fi nancial crisis that hit in late 2008. At the height of the crisis

in early 2009 all sectors, conventional and Islamic, saw their

profi ts shrink and some even saw their businesses come to

a grinding halt. The funds industry was not left unscathed.

Ernst & Young data reveals that the total Islamic assets under

management (AUM) of the four GCC major countries of Saudi

Arabia, Kuwait, UAE and Bahrain fell to US$25.4 billion in the

fi rst quarter of 2011 from US$34.1 billion in the corresponding

quarter of 2010.

In the following years, economic conditions began slowly but

surely to improve. Ernst & Young reported that global Islamic

fund assets under management grew by 7.6% to US$58 billion

in 2010, up from US$ 53.9 billion in 2009. As the industry

continued to realign itself, 23 new Islamic funds were launched

in 2010 while 46 were liquidated.

However in spring 2011 a wave of political unrest, dubbed the

Arab Spring, began in Egypt and spread throughout the Middle

East with Bahrain, a regional center for Islamic fi nance, being

one of the most severely affected. The chairman of the Bahrain

Chamber of Commerce and Industry is reported as stating that

the country had lost up to US$2 billion due to the recent political


According to a recent report, an enforced closure of the Egyptian

stock exchange earlier in the year caused conventional and

Islamic equity funds to plunge 25.18% and 20.42%, respectively,

by August 2011. Bahrain also saw the total net asset value of

its mutual funds, both in the conventional and Islamic space,

decline slightly from US$9.17 billion in December 2010 to

US$8.74 billion in June 2011, according to data from the Central

Bank of Bahrain. The outfl ow of investments came from its local

funds, which dipped by US$480 million.

Ashar Nazim, the MENA head of Islamic fi nancial services at

Ernst & Young, points out that aside from Malaysia, a heavy

concentration of institutional funds with little focus on retail

funds is one of the main issues that the industry faces in all

regions, even in the Middle East. Globally, he said, institutional

funds continue to grow at a rapid pace and make up 67% of

global Islamic funds’ AUM, while retail funds make up just 33%.

He attributes two reasons for this trend. “Firstly, family

businesses show a preference towards established institutions.

Secondly, people [retail customers] generally perceive their

December 2011 19


money to be safer in the hands of banks as compared to funds,

as funds are usually smaller, more localized or lack the brand

awareness that banks have.”

Haissam Arabi, CEO and fund manager at Gulfmena

Investments, also says that 2011 has been a very diffi cult

year for asset and fund managers in the region, as a majority

of them focus on local markets which have lost their appeal

both regionally and internationally. He attributes this factor to a

number of reasons including the Arab Spring and the ongoing

troubles in the Eurozone.

Pervez Akhtar, a partner at White & Case, in a recent interview

said that there has been a reduction of new investment funds in

the region over the last 18 months, largely due to the investors’

perception of the lack of quality assets, with asset valuations

that were out of sync with the current economic situation.

Despite Asia now being the focus of huge infl ows of investments

from global investors, Nazim believes that institutional investors

are still investing in the Middle East region. “The reasons are

not hard to fathom. Firstly, sovereign ratings in the region are

stable and may even be improving, leading to risk averse

capital infl ows. Secondly, Islamic fi nance is gaining popularity

and is becoming a larger part of investment portfolios. GDPs in

the region are still growing with Qatar’s growth being in double

digits. And fi nally, a plethora of new infrastructure investment

opportunities are presenting themselves as public private

partnership is now the preferred mode in this sector.”

However, Arabi does not share Nazim’s view. He says while

there are still some foreign institutional money and even a few

mandates: “Generally interest has dropped signifi cantly and we

have not seen a real pick up yet.”

Asked what asset classes remained popular with the region’s

investors, Arabi says Sukuk in particular had retained its appeal,

with some investors also going into commodities such as gold

for hedging or speculation. He feels that equities remain largely

out of favor due to the volatile market conditions.

However, Nazim on the other hand believes that equity

investments are still prevalent among investors, with Ernst &

Young data showing that they led the AUM of Islamic funds in

the region. The other asset classes favored by retail investors

were fi xed income, commodities, real estate funds and

alternative investments.

A total of US$63 billion-worth of Sukuk were issued during the first

nine months of 2011, up 90% from issuances during the same

period in 2010, according to market data. Malaysia accounted for

the bulk of the issuances making up a total of 69%, while the six

GCC states issued a combined US$16.1 billion or just 25% of the

total. This can be partly attributed to lower issuance levels due to

the unrest in many parts of the MENA region.

Arabi is confi dent however that an increase in issuance in the

Middle East will spur investor interest in Sukuk funds. Nazim

concurs, saying that Sukuk present a safer opportunity during

volatile times; making it the preferred investment option for

investors over the next few months. “The Sukuk market has

been an outstanding performer in 2010. It had a record year

with an issuance of US$50 billion. It has also been doing well in

2011 and will most likely continue to do so next year.”

Nazim points out the UAE and Saudi Arabia are at the forefront

of the Islamic funds sector. “In Saudi Arabia, the market is

heavily skewed towards Islamic fi nance and local laws are

helping the sector, while the UAE has the best operating

environment and a long history in Islamic fi nance.” Aside from

Saudi Arabia, Arabi believes that Qatar is another attractive

market for Islamic instruments.

What does the future hold for the Islamic funds industry? Ernst

& Young’s report forecasts a bright future for the region. It notes

that the addressable universe for Islamic fund managers is in

excess of US$500 billion, and is growing by at least 10-15%

annually, while in the GCC liquid wealth from Shariah sensitive

investors is predicted to add more than US$70 billion to the

pool by 2013.

In spite of this, there are analysts and funds managers who feel

that without the support of institutional investors - which include

sovereign wealth funds, pension funds and Takaful companies

- the Islamic funds industry will remain miniscule over the next

fi ve years.

Jahangir Aka, a senior executive offi cer at asset management fi rm

SEI Investments, has even gone to the extent of cautioning the

industry that poor sentiment in fi nancial markets and lackluster

interest among Islamic institutional investors will probably bring

this year’s growth to a grinding halt or even see it decrease. Aka

adds that pension and institutional funds in particular will be

critical to the industry’s growth as they provide long-term, stable


Nazim is on the same page, but suggests that if institutional

players such as large conventional fund managers and

sovereign wealth funds enter the Islamic funds market, the

industry can expect to see a renewed resurgence and sustained

growth. He fi rmly believes that the best opportunities in Islamic

fi nance today are presented by the GCC countries, especially

the UAE and Qatar, as well as Egypt.

Arabi is optimistic that the future is bright. He reasons that the

investment culture is there to offer the catalyst which the asset

management industry needs, as household savings begin to rise

and inadvertently boost the GDP per capita.

However, he warns that the Islamic funds industry is in

need of major restructuring. “Structural reforms all the way

to repositioning our products and services will have to be

considered. In other words the industry will have to reinvent

itself otherwise it will lose out to international institutions.”

Empirical evidence indicates that things are looking up for

the Middle East at last, with the Eurekahedge Middle East/

Africa Islamic Index posting an uptrend of 0.21 for September

2011. Though miniscule, it is a sign of a positive future. Fund

managers have a long road ahead, but it is essential to lay the

groundwork in order to convince the big players to invest in this

region, before the industry can truly take off.

20 December 2011


The GCC Takaful Market: Evolving Fast

Despite the slowdown, and a tough year for a regional financial

industry affected strongly by the socio-political uncertainties, the

Takaful market remains promising and is expected to be a US$12

billion global industry by the end of 2011: an increase of 31% from

the figures achieved in 2010 as estimated by the World Takaful Report

2011 by Ernst & Young.

The GCC insurance market is set for double digit growth in the

next four years. Alpen Capital estimates a 20% CAGR to reach

US$37 billion from US$17.8 billion in 2011.

The UAE and Saudi Arabia are the two biggest markets in the

region with a forecasted combined share of 75%, while Qatar

is expected to register the fastest growth at a CAGR of 30%

between 2011 and 2015, according to the report.

Non-life insurance will remain dominant and will comprise

86% of total premium in 2015, while life insurance will be 14%,

contributing US$5.2 billion in 2015.

The report said that increasing GDP remains the primary

growth driver. While non-life insurance is expected to hold a

signifi cant portion of total premiums, life insurance premiums

will grow at a higher CAGR. The non-life segment is expected

to grow at a CAGR of 19 % from 2011 to 2015 while life

premiums will grow at a CAGR of 25.1% during the same

period. Governments across the GCC have been proactive in

supporting economic growth mainly through investments in the

infrastructure sector. According to the National Bank of Kuwait

(NBK), GCC government spending could rise by approximately

22% in 2011, thanks to ambitious medium-term development

programs in Saudi Arabia, Kuwait and Qatar.

Life insurance will also witness a signifi cant growth with

increasing per capita income and favorable demographics. The

region has a very young population with approximately 70% in

the 15-64 year old bracket. According to World Bank forecasts,

the total population of the GCC will grow by an average of 2.4%

per year in the next fi ve years, taking it to 45.6 million in 2015.

As the young population in the region matures, the demand for

fi nancial products is likely to see a tremendous increase.

“Our forecasts show that life insurance density will grow at a

CAGR of 22.2% from 2011 to 2015, increasing to US$113.5

from US$50.8,” the Alpen report noted.

Takaful’s growing share of the GCC insurance industry

With a focus on Takaful, Saudi Arabia tops the world rankings,

holding 75% of total global contributions, according to the

latest released fi gures for 2009: followed by Malaysia and the

UAE, which is emerging as one of the most developed Takaful

markets in the region.

Source: Alpen GCC Insurance report 2011

The smaller markets of Qatar, Bahrain and Kuwait are also

witnessing considerable growth, fuelled mainly by the expected

boom in infrastructure and energy projects. Kuwait has seen the

number of Takaful operators triple in less than three years from

four to 12, but remains relatively underdeveloped, although the

country is home to very substantial Shariah compliant fi nancial


Oman has been slower to embrace Islamic fi nance, and

has joined the Takaful ranks only very recently. The Capital

Market Authority (CMA), the national regulator, has granted

approval for the fi rst Takaful operator (Al Madina Gulf

Insurance) but the market might take time to pick up, as only

fully-fl edged Takaful company will be allowed to offer Shariah

compliant products, and Islamic windows for conventional

insurance companies are not permitted in the sultanate.

“Insurance companies which are looking to offer Islamic

products will now need to convert to exclusive Takaful fi rms,”

said an offi cial from the CMA.

Takaful will benefi t further from the boom predicted for the

GCC insurance industry, with its market share set to grow as

competition intensifi es between Takaful operators and their

conventional peers. The increasing awareness and acceptance

levels of the Takaful concept, and the business opportunities

created by compulsory lines and corporate business, are

providing a sound foundation for the Islamic insurance industry

to take a leap forward.

December 2011 21


To date, the number of Takaful operators continues to grow,

with an estimated 77 Takaful operators in the GCC, according

to the World Islamic Insurance Directory 2011.

Family Takaful: The golden egg

Family Takaful is emerging globally as a fast-growing component

of Shariah compliant insurance, as per the fi rst edition

of the Milliman Global Family Takaful Report 2011: which estimated

total Family Takaful contributions of US$1.7 billion in

2010 – or 20% of total global Takaful gross written premiums.

The segment remains under-penetrated in the GCC however,

and it is estimated to currently contribute only 5% within the

MENA region, compared to 77% in Malaysia.

In the GCC, Family Takaful — like its conventional life insurance

counterpart — remains modest but is growing strongly, with an

86% CAGR between 2004 to 2009.

Family Takaful is believed to be a major contributor to the

increase in life insurance penetration rate in the GCC: one of

the lowest in the world due to the hesitance of most Muslims

towards taking up conventional life protection.

The ability of Takaful operators to increase insurance

penetration is critical to their success. Family Takaful currently

presents a rewarding opportunity for all. It provides the Muslim

population with alternative protection and investment options,

and the Takaful insurers with increased profi tability.

Financial planning is another area that has grown in importance,

creating a new window of opportunity for Family Takaful

business. As family wealth has increased so has the desire to

allocate some of that wealth to future generations.

Wealth management divisions in banks are now increasingly

starting to include a suite of Family Takaful-linked investment

products for both lump sum and regular savers. Hence Islamic

savings, education, marriage and retirement plans that

combine investments with protection benefits have started to

become attractive. More banks and Takaful operators in the

GCC are now embracing a segmented approach offering tailormade

solutions based on the customer’s lifecycle needs, and in

accordance with the individual’s risk profi le.

Rising awareness levels have made GCC customers more

demanding in terms of product choice and experience-based

advice, and fi nancial institutions have realized the need to adopt

an ongoing innovation strategy, steering away from the mass

market towards a more segmented approach. Consequently,

more personalized products are being introduced, such as

critical illness cover.

Abu Dhabi Islamic Bank (ADIB), a leading Islamic fi nancial

institution in the UAE, announced last October that it now offers

pioneering breast cancer Takaful cover to all its Dana Women’s

Banking customers.

Exploring new distribution channels

Takaful operators continue to look out for more effi cient

distribution channels to source their Shariah compliant

protection products, but bancaTakaful is gaining ground in the

Source: Swiss Re 2009

GCC, and accounts today for a signifi cant portion of sales,

offering an attractive and cost effective distribution channel,

especially for personal lines.

According to the GCC Takaful Industry report, there are still some

opportunities to be explored in the bancaTakaful arena to maximize

the use of this promising channel. Developing dedicated

sales teams offering Takaful products, giving them incentives on

par with selling conventional products, designing customized longterm

investment-linked savings and pension products, as well as

investing in technology to deliver high customer service standards,

are some of the areas to be improved on to widen outreach

and increase customer retention.

“We are hoping to play a major part in the UAE Takaful

segment’s growth by offering a comprehensive system of

outstanding Islamic insurance services that support the stability

and security of the local community. This move consolidates our

position as market leaders in Bancassurance, which reveals the

strong partnership between banks and insurance companies,”

said Hussein Al Meeza, CEO and managing director of AMAN


Recent additions to the Bancatakaful model in the GCC in 2011

include the recently-established Wataniya, a Takaful subsidiary

of Abu Dhabi National Islamic Finance, the Islamic arm of the

Abu Dhabi National bank.

Noor Takaful has pioneered an unprecedented business

model to increase the distribution of its Takaful products.

According to a memorandum of understanding signed in

June 2011 between Dubai SME (the agency of the department

of economic development mandated to develop small and

medium enterprises) and Noor Takaful, the two institutions

will partner to offer franchises to UAE nationals and sell Noor

Takaful-branded products across the UAE.

Entrepreneurs can work under any of three different franchisee

arrangements offered by Noor Takaful: as a home-based agent,

as a business start-up incubated in SME, or as a fully-fl edged

business operating independently.

“This will be the fi rst time a franchising concept within the

22 December 2011


insurance industry will be available in the region.” said Dr.

Ahmed Al Janahi, the managing director of Noor Takaful. “We

expect this relationship to initially enhance awareness levels

on Takaful.”

Towards consolidation

One of the major challenges in the GCC Takaful market

remains its fragmentation, with an increasing number of small

local players competing against established conventional

providers.The market needs restructuring as it matures in order

for Takaful operators to benefi t from economies of scale and

large distribution networks.

It is still debated whether Takaful in the GCC is ripe for

consolidation and many analysts predict that a trend for M&A

will impose itself soon, for the industry to move forward.

Other challenges remain that are affecting the industry globally:

such as limited Islamic investment avenues, lack of re-Takaful

capacity, lack of standardization and a shortage of qualifi ed

personnel, which seems be particularly challenging in the case

of the GCC, where governments are placing an increasing

emphasis on employing nationals in preference to expatriate


Takaful in the GCC is ripe

for consolidation and many

analysts predict that a trend for

M&A will impose itself soon, for

the industry to move



The GCC has undeniably shone as the most dominant Takaful

market in the past three years, and it is maturing on sound

grounds, despite the challenges. Favorable economic and

demographic growth, as well as supportive governments

continuously enacting laws and regulations to create a

conducive environment for the industry, are further enhancing

the GCC as a leading hub for Takaful. The recent political

changes across the region will create unlimited opportunities

for GCC operators to export their expertise and take over new

markets, with a massive potential for cross-border expansion,

while the initial focus will be more on MENA, Turkey and

possibly India.


I read IFN

on my iPad

Neil Miller,

Global head, Islamic finance



Sohail Jaffer is the partner of international business

development in FWU Group

For more information:

Email: sub@islamicfinancenews.com

Tel: +603 2162 7800

Web: www.islamicfinancenews.com

December 2011 23


Bridging the Digital Divide

The rapid evolution and growth of the Islamic banking and financing

industry has predicated the need for Islamic financial institutions to

offer increasingly sophisticated products and services in order to meet

the current and future expectations of their customers.

Modern society has seen a seismic shift in the way we interact

with traditional businesses and in turn how these businesses

relate to their customers. Nowhere is this more clearly felt

than in the technological arena, where banks are increasingly

expected to be able to offer completely interactive and easily

accessible electronic solutions through both their online and

mobile portals.

This has seen us shift the way in which we interact with

traditional businesses, particularly the banking sector, as our

lives become increasingly mobile. The ubiquity of technology

has allowed banks to offer an increasing array of benefits that

previously only a bricks and mortar branch could offer. This

hands the emerging Islamic banking sector a once-in-a-lifetime

opportunity to open up the industry and reach into new and

exciting segments.

The nature of the Islamic fi nance business model is that it

seeks to encapsulate a segment of the market previously at

odds with conventional banking products and as such requires

a customer-driven, technological approach. Internet and mobile

banking services have made new and exciting opportunities

available, enabling Islamic fi nancial institutions to offer a

plethora of information to their customers through internetenabled

and mobile devices. As Islamic fi nancial institutions

try to capture an ever greater share of the current market they

are also aiming to attract future business from those customers

previously underserved by the conventional industry. In offering

customers comprehensive access to mobile and online

banking, Islamic fi nancial institutions have the opportunity to

bring banking services to communities and individuals with

previously limited access to fi rst-rate banking facilities.

Tailor-made for mobiles

Keeping customers satisfi ed and happy is the key to sustainable

customer retention. With mobile phones and the internet

becoming ever present in our everyday lives, customers are

looking for a banking facility that allows them to access their

account information anywhere and at any time.

Customers as a result want access to their account information

whenever they want and from wherever they want. Tailored

to the requirements of local banks and their customers in the

GCC, ITS’s solutions have been created to enable banks to leap

ahead in customer service by providing their customers with

secure, around the clock access to their account information.

Specifi cally tailored to the requirements of their customers,

the ITS-offered ETHIX-Mobile solution has been created to

enable banks to provide customers with secure, 24/7 access to

their account information, while the wholly integrated banking

solution enables customers to perform many critical banking

functions directly from the ETHIX-Mobile browser interface.

ETHIX-Mobile is an affordable retail mobile banking solution which

can be used through any mobile phone, providing customers

direct access to banking services through SMS and WAP enabled

handsets. From a simple account review screen to the ability to

make payments, transfers and self-service functions, the ETHIX-

Mobile banking solution can provide customers with an efficient

online service and one that can be automatically distinguished

from any of its competitors. The application succeeds in delivering

a quality product with competitive functionality and, most

importantly, information security.

With fi erce competition in the banking world, fi nancial

institutions see mobile banking as a way to keep existing

customers and attract new ones. ETHIX-Mobile can provide a

bank with an advanced technological solution which not only

improves customer service but also increases revenue through

a reduction in transaction costs as well as allowing Islamic

fi nancial institutions the ability to target and retain their most

profi table and sophisticated retail customers.

World wide solutions

Mobile solutions allow for an increased geographical reach

and at a signifi cantly lower cost. Mobile banking also allows for

the expansion of customer contact with a bank’s branding and

products, strengthening their relationship with those products

and the bank. Relationship building is a strategic priority

for many fi nancial institutions. Internet and mobile banking

technology together with an attractive array of products and

fi nancial services can provide a means for banks to develop

and maintain relationships. By offering a wide range of functions

and sophisticated technology, ETHIX-Mobile can assist a bank

to improve customer service and build customer loyalty.

Mobile banking allows fi nancial institutions to offer a wide

selection of products and services to a range of banking

customers. As the demographics of banking customers continue

to change, the challenges faced by banks is to understand each

customer and fi nd the right product combination and service to

suit their individual needs. ETHIX-Mobile offers both fl exibility

and a comprehensive range of instruments which can allow a

bank to reach different customer segments and maintain profi t


Enabling users in the digital arena has become an imperative

requirement of all banks, particularly in areas with high mobile

penetration and limited banking facilities. In these areas,

24 December 2011


operators are laying a strong emphasis on providing enhanced

mobile banking services that are increasingly being adopted by

consumers who are looking for secure and convenient banking

and bill payment options. By leveraging off their mobile and

internet platforms, banks can gain customer loyalty, reduce

costs and attract a customer base without the expense of

opening up additional branches. Online and mobile services

further allow these institutions an ever greater opportunity to

differentiate between themselves and the conventional industry.

As key enablers for the Islamic banking industry, mobile banking

solutions allow fi nancial institutions the means to better respond

to the growing and evolving customer demand for mobile-based

capabilities using their smart phones. While mobile fi nancial

services have been adopted widely, they have yet to be utilized

to their full extent in many Islamic countries and Islamic banks.

Technology opens the door to a new generation of customers

where banking can be done anytime and anywhere. In offering

mobile and internet-driven services to existing and potential

customers, Islamic banking has the potential to take a quantum

leap forward in advancing its product exposure and branding.

Embracing the internet age

With the internet becoming integral to people’s lives, fi nancial

institutions are moving towards offering an increasingly wide

range of services by means of virtual distribution channels. In

offering a highly reliable system, ETHIX-Net is designed for

retail and corporate banking customers who want to enable

access to their banking services through the internet.

The challenge today for Islamic banks is to introduce new

products, reduce costs, expand their geographical reach and

improve their return on investment. ETHIX-Net can address

these challenges by providing a simple, secure and scalable

solutions, offering a wide range of functions in multiple

languages (including Arabic) and multiple currencies: including

balance enquiries, transaction history, account transfers and

third-party payments.

Comprised of two major modules, retail and corporate, the ITS

internet banking suite is completely fl exible allowing for full

personalization and fl exibility. This is continued through to the

provision of its fl exible charging models that allow for a plethora

of percentage, fi xed rate, combination and stepped type-based

transaction processes.

As a result, the cutting-edge corporate internet banking suite

from ITS delivers a sophisticated multilingual and multicurrency

offering that is easily integrated into all third party applications,

with a proven performance record in giving any bank an edge

in performing its cash management, trade fi nance, invoicing

and collection functions. The strength of ITS’s corporate

internet banking solution lies in its powerful features such as its

advanced security matrix and workfl ow management, delivering

real-time data on account balances and transactions as well as

straight-through processing on payments such as SWIFT.

Supported by the corporate internet banking solution, the ITS

suite allows any corporate provider complete management

of their business by managing their internal workfl ows and

redefi ned corporate templates.

ITS’s retail internet banking system delivers a quality product,

competitive functionality and information security in a packaged,

affordable internet banking solution. From a simple account

review screen to sophisticated payment, transfer and selfservice

functionality, retail internet banking provides the most

compelling online experience that distinguishes your bank from

your competitors. Thus, your bank will generate more revenue

and reduce transaction costs while capturing and keeping your

most profi table and sophisticated retail customers.

Meeting market needs

The ITS-offered solution is a fully brandable e-banking

application that provides advanced retail and corporate

banking functions. It offers the ideal solution to fi nancial

institutions wishing to offer internet banking functions to their

customers. The solution is based on the latest technological

developments and meets the most stringent user convenience,

cost effectiveness and time-to-market requirements.

The solution is a totally secure, all-encompassing internet

banking application that consists of independent components for

performing banking or trading functions which are distributed in

a secure way through the internet. The application architecture

enables banks to segment their markets (retail, small business

and corporate) under a single application.

Market leader

As a recognized market leader, ITS offers unprecedented

experience in providing IT infrastructure and software solutions

to banks and fi nancial institutions worldwide. This comes as

part of ITS’s mission to be the leading integrated information

systems provider to institutional clients in the Middle East

through the superior quality of its products and services

forming a complete IT solution. With a proven track record for

successfully implementing fi nancial software products within

both Islamic and conventional organizations, ITS is regarded

as a key Islamic solutions provider.

Established in 1981, ITS now has a portfolio of more than

150 clients across the globe and is the preferred choice for a

growing number of businesses, banks and fi nancial institutions.

With a team of dedicated professionals, ITS can offer a

range of customized IT services and solutions including fast

track implementation and total business solutions as well as

providing continuous customer support.

Over the years ITS has gained many awards and certifi cations

for Islamic Finance Modules, including the AAOIFI certifi cation

in December 2009. Headquartered in Kuwait, ITS has a wide

geographical presence with 23 offi ces across the MENA region

waiting to serve your needs.

Hossam Gad

Marketing & Global Operations

ETHIX Core Solutions & Delivery Channels

Financial Industry

Tel: +965 2240 9100 ext. 163

Mobile: +965 9728 8234

Email: hossam.gad@its.ws

December 2011 25

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