Islamic finance comes of age

Islamic finance is experiencing a growth spurt as new products and services come online to tap into nascent demand for Sharia-compliant products.
But as the trillion-dollar market starts to mature, many in the industry are wondering whether the industry is growing too fast and innovating faster than regulators can keep up.
Philippe de Backer, the global head of financial services at Bain and Company, says there is some doubt as to whether Islamic banking has enough momentum to move into the mainstream.
"There's a large number of Islamic banks, many part of universal banks," Mr de Backer says. "The issue is critical mass. That impacts the structural profitability of these banks."
He says the question is: "How do you manage to create a champion?"
The UAE is one of several countries playing a leading role in Islamic finance, which has traditionally been led by Asia.
National Bank of Abu Dhabi last week announced the launch of a Sharia-compliant repurchase agreement, the UAE's first, which it is hoped will allow Islamic banks access to fresh liquidity and spur lending in the economy.
A proposed Qatari superbank, which is expected to be formed from Islamic units spun off by the country's conventional lenders, may also give the industry a shot in the arm.
But more and more professionals are entering the industry, as clamour for Islamic financial services starts to build, according to Emad Mansour, the chief executive of the Sharia-compliant Qatar First Investment Bank.
"Demand for Islamic banks, as much as it is, is primarily driven by investor appetite," Mr Mansour says. "And another factor to this gap is the level and degree of sophistication of Islamic finance.

"More and more players are coming into this market. The more people that participate in the industry, the more sophisticated it gets."
But are participants in the industry equipped to cope with the breakneck speed of change? Sheikh Yusuf De Lorenzo, a Sharia scholar, thinks not.
Speaking at the Global Financial Markets Islamic Forum in Abu Dhabi, Sheikh Yusuf says: "It's no secret that as the industry expands its need for human capital increases. "The problem is and always has been that there's a lack of trained and educated and experienced professionals in the field.
"There was a period of getting to know one another, and getting acquainted with the basics and the rules. Now you've established international governing institutions, the focus needs to be on the development of human capital."
Sheikh Yusuf recommends a focus on the younger generation of professionals, including revolving membership of Sharia boards, so younger scholars are given the chance to gain experience alongside their more venerable counterparts.
"There's a great need within our industry for qualified people and people with new ideas," he says.
That would add rigour to the industry and allow for a more solid regulatory framework, drawing new investors, Sheikh Yusuf says. "To compete, we need people who are as good as, or better than, the people who work in conventional banks and asset houses."
As those international institutions pile into the sector, demand for Islamic market scrutiny is soaring. Standard & Poor's (S&P), the ratings agency, will tomorrow conclude consultations on proposed changes to the way it rates the Islamic financial sector worldwide as part of its all-reaching review after the global financial crisis.
Emmanuel Volland, an analyst at S&P, says the aim is to update its understanding of risks among conventional and Islamic banks.
"What we saw was that risks were more correlated across traditional silos than expected, leading to greater risk concentration and interconnectedness," Mr Volland says.
"The proposed criteria also differ from our current approach by proposing a more detailed and systematic framework for taking account of the potential for government support in bank ratings, which would allow for support to be included in certain ratings at all points of the cycle rather than just in downturns..
"We also propose to give less emphasis to unproven diversification benefits but place greater emphasis on risks resulting from the added complexity of off-balance-sheet derivatives and structured finance

Islamic banks need to improve services
DOHA: Islamic banks will be under pressure to improve their services once the Islamic arms of conventional banks are closed by the year-end since a large number of the customers of the affected branches would be shifting to them, say banking experts.

Customers have for long been enjoying quality services provided by the Islamic arms of commercial banks so once they shift they would be looking for similar services from the Islamic banks.
Unfortunately, though, Islamic banks do not have enviable reputation when it comes to providing services on a par with their commercial rivals.
Islamic banks have so far left a good impression on their customers but their real test would begin once the Islamic operations of conventional banks close and customers move to them rather en masse, banking expert, Abdullah Al Khater, told Al Sharq.
So improving their services is one of the most formidable challenges these banks face. “Islamic banks need to diversify their products and services and incorporate more transparency,” he added.
If they do not expand their services they could face problems, he said. “Like commercial banks they would need to be innovative in providing services,” Al Khater said of the Islamic banks.
Islamic banking industry sources, meanwhile, said that they were pressing ahead with their expansion plans regardless of the decision of the central bank to close the Islamic operations of conventional banks by the year-end. “We have expansion plans in place and these plans have not taken into account the central bank’s decision,” said industry sources.
Islamic banks have been performing well and they would maintain their tempo, they added.

‘SBP to provide supportive policy for Islamic Banking’

Staff Report

KARACHI: The central bank is committed to provide an enabling and supportive legal, policy and regulatory framework for the development of the Islamic banking industry on sound footings in the country, said Yaseen Anwar, Deputy Governor State Bank of Pakistan (SBP) Thursday.

While delivering a welcome note at a talk on “Narrowing the gap between philosophical underpinnings of Islamic finance & its practices” organized by Dr Abbas Mirakhor, a renowned economist & Islamic finance professional and former Executive Director of the International Monetary Fund at SBP, Yaseen Anwar said that the State Bank is taking a number of initiatives for the promotion of Islamic finance in Pakistan.

He said that in addition to developing the regulatory, supervisory and Shariah compliance framework, SBP is also partnering with the industry to create awareness about the utility of Islamic banking and finance in achieving socio economic prosperity at the individual as well as community and state levels. “SBP is also helping to build human resource capacity which is critically important for the industry for sustaining the growth momentum and improving its footprint and share in the banking system,” he added.

Deputy Governor SBP said that the Islamic banking Industry has grown manifold since its launch in 2001 and presently constitutes about 6.7% of the banking system in Pakistan. The industry now has a network of more than 750 branches across the country and given the strong growth momentum and rising acceptability, it is likely to increase its share to 10-12% over the next 2-3 years, he said. “The overall outlook for the industry in Pakistan is thus positive and its prospects to make further strides in the foreseeable future are very bright,” he added.

Anwar said that the global outlook of the Islamic finance industry is also positive as it has been growing at a fast pace and extending its outreach beyond the Muslim countries. Since 2006 the industry grew on an average 28 percent annually with its asset base reaching about $1 trillion.

He said that the recent crisis in the western financial markets has also given a big boost to the acceptability and promotion of Islamic banking as a more stable and prudent system than its conventional counterpart. “The inherent checks and balances in the Islamic financial system, which prohibits Islamic banks to deal in speculative activities and strongly links growth of financial assets with that of the real economy largely kept the Islamic banks insulated from the financial crisis,” he added.

Anwar said that while the philosophical appeal of the Islamic economic system is very strong, the Islamic banking practices, however, revolve overwhelming around the conventional banking system. Most of the Islamic banking products are Shariah compliant structures of conventional products and produce more or less similar economic results, he said and added that the significant differences between the philosophical underpinnings and practices of Islamic finance give rise to debate and confusion about the real difference between Islamic and conventional banking. SBP Deputy Governor lauded the services of Dr Abbas in the field of Islamic finance.

Islamic trade finance may reach as much as $800bn a year should Sharia-compliant banks strengthen cooperation with financial institutions in other countries, according to a Bahrain-based regulator.

“At this point, Islamic trade financing is very simple, it’s not focused and it isn’t competitive,” said Mohamad Nedal Alchaar, secretary-general of the Accounting & Auditing Organization for Islamic Financial Institutions, whose standards have been adopted in countries including the UAE and Qatar. “We could tap 20 percent of the total trade financing, that’s very reasonable.”

Trade among the 57-member Organization of the Islamic Conference based in Jeddah is likely to reach $4 trillion in 2012, Alchaar said in an interview in Abu Dhabi on February 27. Islamic trade finance has been slow to develop because it remains fragmented, according to Yakub Bobat, Dubai-based Global Head of HSBC Amanah Commercial Banking.

Sharia-compliant letters of credit are based on the principle of wakalah, where a bank acts as an agent and is paid fees and commissions in place of interest. Non-Islamic trade financing, which typically involves loans and the payment of interest, is forbidden under Islamic law.

Demand for services and products that comply with Sharia law is increasing by about 15 percent a year and assets will rise to $1.6 trillion by 2012, according to the Kuala Lumpur-based Islamic Financial Services Board, a global standard- setting body.

Global sales of sukuk, which pay asset returns to comply with Islam’s ban on interest rates, are showing signs of a recovery this year after slumping in 2010. Issuance has reached $3.9bn from $676m in the same period last year, according to data compiled by Bloomberg. Offerings fell 15 percent to $17.1bn last year.

The yield on Dubai’s 6.396 percent sukuk maturing in November 2014 fell 7 basis points last week to 6.4 percent on March 4, according to Bloomberg data. The extra yield investors demand to hold Dubai’s government debt rather than Malaysia’s narrowed 2 basis points to 344, the data show.

“The main reason why the industry has not been able to take off is that trade finance needs parties to connect across borders,” Bobat said in a telephone interview March 3. “The industry today is still pretty local, fragmented, at best regionalized, and is in need of consolidation.” HSBC Amanah is the Islamic banking unit of HSBC Holdings in London.

The OIC plans to boost trade among member nations to 20 percent of total trading volume in 2015, according to the group’s 10-year plan posted on its website, from 14 percent in 2004. Trade among OIC members reached 17 percent in 2009, Jeddah-based Hameed Opeloyeru, assistant secretary-general of economic affairs at the OIC, said in an e-mail response to questions yesterday.

The OIC, which includes the UAE, Indonesia and Pakistan, is in talks to establish a free-trade area for its more than 1.4 billion people, according to its website.

“Islamic banks don’t have the reach yet to go into discussion with corporates that need trade financing,” said Geert Bossuyt, the Dubai-based managing director and chief executive officer of Dar Al Istithmar, an Islamic finance advisory company established in the UK in 2004.

Sharia-compliant banks will “become more active” over time, Bossuyt said in a telephone interview March 3. “It’s an evolutionary issue.”