Opportunities & Trends in Islamic Finance - Euromoney

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Expanding the frontiers ofIslamic finance2007 was a year of achievement for Islamic finance, with growth on all fronts. Yet the sector stillfaces great challenges, not least in finding and training enough Islamic bankersThe Islamic finance industry has never enjoyed a year like 2007. Inevery market and every aspect, the providers of Islamic financial solutionshave surpassed their past achievements. They have grown thebalance sheets of Islamic banks by 40% in 2007; more than quadrupledthe issuance of new sukuk; expanded to new frontiers, and improvedevery aspect of their business in established markets.But the industry faces three great challenges if it is truly to expand itsfrontiers: are there sufficient qualified people; are Islamic and regionalbanks able to pick up the slack created by retreating global banks, andwill regulators implement the rules that allow a well-ordered businessto compete on a level playing field? Even if 2007 was a great year, thepromise will not be buoyed by high oil prices, rather by elbow grease.The Sukuk spaceSlowly, the Saudi Arabian market is awakening to the opportunity touse sukuk for corporate finance. Although the Capital Markets Authorityhas not yet issued sukuk rules, important corporates such as SABIC,Saudi Consolidated Electricity Company (SCECO), Dar Al Arkan and theSaad group have issued. More will follow. The large issuances of SABICand SCECO were placed domestically, demonstrating the capacity forfunding in the local market: an important omen for the future. GivenFigure 1: GCC vs Malaysia value of Sukuk issues, 2005-2007Total value of issues, $bln35302520151050GCCMalaysiaNumber of issues20052006 2007the comparison of population and GDP between Saudi Arabia and Malaysia,one can only imagine that the implementation of the right sukukrules in Saudi Arabia will turn that key market into the true secondpillar of sukuk activity alongside Malaysia.The sukuk market faces other important challenges, including thegauntlet thrown down by Muhammad Taqi Usmani at the Accountingand Auditing Organization for Islamic Financial Institutions (AAO-IFI) conference in November 2007. Not only Saudi Arabia, but otherimportant Islamic markets require the definition of rules that will allowefficient special purpose vehicles to be formed, with bankruptcy remoteness,and for the formalization of the Anglo-American concept of“true sale” under local law. These rules and other that enable the sukukmarket to its fullest only solve part of the problem. Usmani pointed outthat many sukuk are structured in a way that makes them more like aloan than an Islamic lease or partnership; and this takes them out ofAAOIFI compliance. As a result, the market faces the new question ofwhat qualifies as a true Islamic instrument, and whether that instrumentis easily traded outside of the explicitly defined Islamic space.Perhaps GCC and MENA regulators need to contemplate importing theMalaysian style of integrated Sharia’a oversight and regulation.Because the sukuk market is not yet efficient, despite its dynamicgrowth, the syndication market remains hot. Syndicated Islamic160140120100806040200Number of issuesSource: IFIS, 19 December 2007project finance is following the same degree ofexperimentation as the sukuk market. In the pastyear, large-scale declining balance partnerships,forward leases, salam (forward sales of commodities)and tawarruq (an adaptation of murabaha)deals have been syndicated in the project financeand corporate finance market. This is in addition tothe continuously active syndicated Islamic tradefinance market.Project demandThe Islamic project finance market’s opportunitiesare beyond imagination, whether they be inmaster-planned cities in almost every Middle Eastand North African country, modernization of thehydrocarbon sector on a global basis, or lateralinvestment by GCC countries into the downstreampetrochemicals and plastics business around theworld. And, increasingly, many of the businessleaders guiding these projects are seeking partialor complete financing on a Sharia’a-compliant basis.This demand is helping many Islamic investorsplace their funds, but it also requires the expertiseof traditional global and investment banks to
structure and manage the project risks and financing. With inflationarypressures and shortages of certain building materials as well asinsufficient engineers, 2008 may see a cooling in this sector. Worse, it isunclear how much the credit crisis in the West will cause the traditionalplayers in project finance to retrench and be less active at a time whenthe market is demanding their skills.New market opportunitiesThe two great developments of the past seven years include the improvementof economic standards in many Muslim countries as civil orderor economic growth have been restored, and the petroleum boom.Both realities are rapidly expanding the capabilities of Muslim savers inAfrica and Southeast and South Asia, as well as the MENA region. Theincreasingly sophisticated Muslim consumer is demanding comparableservices at a fair value from Islamic providers. The result has been theemergence of a robust takaful sector with both regional and globalplayers providing robust and innovative solutions.Takaful is the Islamic alternative to traditional insurance, and its growthis creating demand for new and better asset management solutions. Awide variety of new products and adaptations of new products is beingintroduced to the market. These range from efforts to execute betterwith plain vanilla products to highly debated structured products andderivatives that some are testing in the Islamic market. On the onefor Islamic bankers and investment bankers. The best way to characterizethe four qualifications now available is as a good start. But nothingyet blends a practical, multilingual approach to providing prospectiveand practising Islamic bankers with the correct balance of Sharia’aunderstanding and banking knowledge. Moreover, many are geared towardspeople with a certain, relatively high job functionality or highereducation. With the current growth of Islamic banking and finance,too many tasks from the back office to the CEO’s job are performed bytalented people whose understanding of Sharia’a ground rules is simplistic.The directors of the leading Islamic institutions need to elevatethe role of comprehensive assessment based training to the forefrontof their agendas.ConclusionWill the credit crunch deflate our hopes for 2008? The many achievementsof 2007 are built on a deep cooperation between the leadingglobal financial institutions from the West and the Islamic financialsector. If the global banks falter due to the credit crunch, one mustask whether Islamic banks and investment banks have the ability andthe capacity to pick up the slack. In the sukuk market, two importantevents are giving contradictory answers. Although the funding forSABIC I and SCECO was largely from Saudi Arabian investors, the organizationof the deals came from HSBC. This causes one to wonder if theGCC and MENA markets are ready. Important bankers say yes, but we“In every GCC market and Malaysia, every aspect of consumer and corporatefinancial services is addressed by an Islamic choice. This growth of alternativesis giving depth to the market and assuring its long-term stability”hand, the demand for better and more sophisticated investing is beingmet by more and more providers in the takaful and asset managementfields. On the other hand, the surplus of cash among Islamic investors iscausing experimentation that is challenging on every frontier.But the market is enjoying new developments of significance. Countrieslike Turkey and Egypt, formerly less at the frontier of Islamicfinance, are moving forward. Significant new investments by GCCIslamic investors into Turkey, Egypt, Pakistan, the UK and Indonesia arebringing life to these markets and creating new opportunities for thefuture of both the inbound monies and the investors themselves.Although some analysts believe that the volume of new Islamic banks,finance companies, investment banks and funds is unsustainable, thereality is that consumer choice is winning. But the real meaning is thatin every GCC market and Malaysia, every aspect of consumer and corporatefinancial services is addressed by an Islamic choice. This growthof alternatives is giving depth to the market and assuring its long-termstability.The people challengeNonetheless, there remains one great challenge. There are not enoughIslamic bankers to go around. And, there is no accepted qualificationhaven’t seen the market in action without the global banks. In contrast,the robust Malaysian sukuk market enjoys the participation of foreignbanks, but does not rely on them to lead or fund deals. Surely the talentand funds exist in the global Islamic market, and it can function withthe scaled down role of global banks. Indeed, the initiative, whether inPakistan, ASEAN countries or the MENA/GCC region to address takaful,asset management and consumer needs is almost completely homegrown - which leads to the as yet unfulfilled need for better and moreintegrated training.For further information, please contactAbdulkader ThomasPresident & CEOSHAPE Financial Corp.Vienna, Virginia & Kuwait CityEmail: info@shapefinancial.comINTRODUCTION • Expanding the frontiers of Islamic finance
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Opportunities & Trends in Islamic Finance - Euromoney

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