Many sovereign wealth funds (SWFs) have exposure to Sharia-compliant, publicly listed screened companies.
The government pension fund of Norway reported in last year's third quarter that nine out of the top 10 investments were Sharia-compliant. HSBC Bank is the only exception.
According to Monitor-FEEM Research's five-point definition, there are 35 sovereign funds, just over half of which are from Muslim countries. The question to ask is twofold: has the time arrived for Islamic SWFs and what are the implications?
In today's financial markets, we talk about billions and trillions, yet in Islamic finance we do not have large banks (billion-dollar paid-up capital), and funds are small, with an average size of about US$40 million (Dh146.9m).
Takaful, or insurance, premiums are a relatively tiny amount at $8 billion, and so on. Put differently, Islamic finance is a rounding error or the size of a transaction in conventional finance.
There is no free-trade agreement among the 57 member countries of the Organisation of the Islamic Conference (OIC), and intra-OIC trade was about 17 per cent of the group's overall trade as of 2009. However, there are 1.6 billion Muslims, a number thrown around carelessly, to entice and show the potential growth in trade.
But how many Muslims know about Islamic finance and, more important, how many are participants, the bankable 2 to 3 per cent?
The halal food industry has greater brand recognition and penetration than Islamic finance among the 1.6 billion Muslims. The Islamic finance industry will continue to have conferences, issue press releases and produce white papers on the various needs of the hour: consolidation, co-ordination, standardisation, more scholars and qualified people.
The award dinners on the "best this or best that bank/fund/takaful" will continue in Islamic finance hubs. Beyond the cheer-leading, the industry needs to think outside the "mosque" for developments that generate foundational growth and have a cross-selling appeal to the non-Islamic community. An Islamic SWF would not only capture the imagination, but it might also be an anchor to move this niche industry to $2 trillion by 2015.
Assuming major challenges associated with establishing an Islamic SWF, such as sovereign ownership, mandate and funding are addressed, the focus then moves to three main areas; asset allocation and implications; corporate social responsibility; and public relations and marketing.
Typically, to smooth out returns, SWFs have exposure to a variety of asset classes including equity and bonds and alternative asset classes such as hedge funds, commodities, real estate investment trusts, property, forex trading and securities lending. External managers usually manage these assets on active and passive bases, and performance is benchmarked to a corresponding index or is assessed on an absolute basis.
Because of the prohibitions against interest, speculation, uncertainty and investing in the "sin" sector, asset class options for Islamic investing are more limited.
According to Lipper data for last year, 586 Islamic funds were in operation with $37bn of assets under management, with a bias towards equity funds (303), mixed asset (101), money markets (77), sukuk funds (77). The majority of these funds were actively managed by external fund managers.
The Islamic funds industry has been mandate-driven, meaning fund sponsors such as family offices or institutions put out requests for proposals (RFPs) for a mandate, such as global or healthcare funds, and asset management companies vie for the mandated money.
In the West, funds are internally seeded and incubated, then eventually brought out for sale if performing, but western asset managers do not replicate this process with Islamic funds.
Thus, an Islamic SWF can actually contribute to innovation in asset management by working with Islamic scholars and industry bodies such as the Accounting and Auditing Organisation for Islamic Financial Institutions, in establishing screening and structures for other asset classes, such as equity REITs and commodities, then circulating RFPs to asset managers for various "seeded" mandates.
The net effect is the building of the Islamic asset management industry, and, if done in Abu Dhabi, contributing to the emirate's 2030 vision of becoming an asset management hub. Today, Islamic finance focuses on negative screening for compliant companies, similar to the Stoxx Europe Christian Index or Catholic (Ave Maria) funds and earlier versions of social-ethical screening.
The enlightened investing world is moving towards impact investing and investing that emphasises environmentalism, sustainability and good governance, and Islamic finance likewise needs to build causeways towards the "positive".
As a region, the GCC has one of the largest carbon footprints globally, and, to date, not one Islamic bank is a signatory to the climate, carbon or equator principles.
This may be because of the embryonic nature of Islamic finance and the need to establish traction, but the justification for the status quo becomes less compelling as time passes.
The time has arrived for an Islamic SWF, as it will be the "needle threading" - the link among intra-OIC trade and investment, large Islamic banks, Islamic equity capital markets, and Islamic asset management to include positive screenings and build bridges.
*Rushdi Siddiqui is the global head of Islamic finance at Thomson Reuters (16 March 2011)