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Saturday, 28 April 2012

Islamic finance: Mega bank, stock exchanges and trading platforms

ISSUES TO CONSIDER: An open letter to Islamic Development Bank president Dr Ahmad Mohamed Ali
DEAR Dr Ahmad Mohamed Ali, president, Islamic Development Bank (IDB) Group;

Asalaam Alaikum,

The Islamic finance world welcomes your comments on the Mega Islamic Bank with much excitement and great sense of anticipation. 

“…The ‘Mega Islamic Bank’ comes as an initiative of the Islamic Development Bank in its efforts to address the dearth of senior financiers, the absence of the Islamic tools of stock exchange and the absence of market liquidity between Islamic banks.” 

Dr Ali, the Islamic mega bank, working with IDB and industry stakeholders, needs to also include stock exchanges and trading platforms, both Islamic and OIC, as part of the conversation.

The objective is to make Islamic finance better ‘equity/debt’ balanced, conventionally efficient and syariah compliant complete. This may well bring in additional senior financiers, attract ‘under the mattress and conventional’ liquidity, and replace today’s product pushing with tomorrow’s investment tools determined by market liquidity. 

Work in Progress

The lack of enough qualified professionals, including scholars, is something leading academic and research institutions like Inceif, ISRA, etc, are working on. The issue of inter (Islamic) bank liquidity is something IILM and others are working on, and ‘…absence of the Islamic tools of stock exchange…’ are part of ongoing public-private sector initiatives. 

Dr Ali, you may ask, why stock exchanges and trading platforms also need to be part of the mega bank conversation? 

(Lets side-bar two points: (1) The capital charges associated with Basel lll for now, as we are at blueprint stage, and (2) Mega bank implies cross border, however, without another mega bank, are there counterparty (small) size risk issues, as the average Islamic bank’s paid-up capital is equivalent to the assets under management of an Islamic equity fund?)

Simply put, the need for ‘equitisation’ of Islamic finance for a better balance from the present debt bias via Sukuk, Murabaha syndicate loans, etc. As entities and individuals can be over-leveraged, they can also be Islamically over-leveraged, witness the recent bankruptcy reorganisation declaration by Bahrain-based Islamic bank, ArCapita, and Sukuk have defaulted and gone into bankruptcy, hence, no ‘divine put’ in Islamic finance.

Stock Exchange

In the developed world, stock exchanges, like Nasdaq NYSE-EuroNext, are well established and closely regulated, hence, there is confidence and trust for investor participation. In the 57 Muslim countries, which also happen to be emerging markets, some/many of the stock exchanges are often-time called ‘casino-capitalism’. It may be just one reason why there are more depositors than investors in the Muslim world. 

However, stock exchanges are the foundation of the capital markets, and such markets reduce reliance on bank financing, conventional or Islamic. Furthermore, it’s the risk-taking capital markets that are the financing foundation of knowledge-based economies. However, in the Muslim countries more needs to be done, as the largest economic sector is the (prohibited) conventional financial sector! 

Finance may be the lubricant of economies, but Muslim countries need less financial engineering and more intellectual property-led engineering (for knowledge-based economy) that Islamic finance needs to finance. Dr Ali, a collateral question becomes, beyond real estate, what value-add area(s) has Islamic finance financed in a Muslim country?

For example, the three largest economic sectors in a global Islamic index are technology, healthcare, and oil/gas, and innovation typically is from these areas. However, in OIC stock exchanges, these three sectors are either missing or have insignificant weighting representation in the capital markets. An Islamic mega bank will probably not be offering Islamic VC funds or funding SMEs, both contributors to knowledge and GDP/employment of economies, respectively. 

Dr Ali, the status quo cannot continue as the ‘Muslim man on the street’ is losing patience and confidence, (s)he is looking for VC, microfinance and SME financing and believes Islamic finance is only for the bankable. Furthermore, in Muslim countries there are more depositors than investors. A recent report by Ernst & Young on Islamic funds shows the assets under management to total banking deposits ratio (AUMs/Deposits) of US at 143 per cent and Saudi Arabia at 33 per cent and Malaysia at 10 per cent! 

QUERY: Is it in the best financial interest of (Islamic) banks (in Muslim countries) to maintain the status quo: maintain and expand the number/percentage of depositors over investors?

OIC Exchange Situation

Dr Ali, today, there are a number of challenges with OIC country stock exchanges, possibly due to the embryonic nature state of development and continued reliance on bank financing. However, let’s assume that your stock exchange comment is for both Muslim and non-Muslim country stock exchanges with listed syariah-compliant companies and products. The reality of the situation is most (85 per cent market capitalisation) of the compliant companies, in a global Islamic index from an index provider, are in the G-20 (non-Muslim) countries. There are 42 stock exchanges amongst the 57 Muslim countries and some of the challenges include:

1. Foreign investor restrictions, including currency restrictions and soft currency
2. Small free float
3. Illiquidity
4. Largest economic sector weighting is the prohibited interest-based conventional financial sector
5. Let’s set aside issues related with insider trading, front running, etc, not an uncommon phenomenon in the emerging markets.

Furthermore, the capital markets compartmentalisation within the Muslim countries, due more to politics than economics, is both a speed-bump and pothole to one seamless offering. 

To date, there is no OIC stock exchange, GCC stock exchange or Arab stock exchange, or CIS stock exchange, etc. Furthermore, the market has not accepted the conversion of Dubai Financial Market (DFM) into an Islamic stock exchange a few years ago, as to date, very few, if any, non-UAE public-listed Islamic financial institutions, Islamic Exchange Traded Funds (ETFs), etc, have not listed on DFM. 

Trading Platform

Notwithstanding some of the above mentioned challenges with OIC stock exchanges, they are important building bloc foundations for asset class trading platforms. The listing of firms and investment products are the ‘content’ placed on platforms, with work flows, for trading and investing for global investors. Thus, OIC stock exchanges, mostly a domestic play, become global on platforms like Thomson Reuters Eikon or Bloomberg terminals. Put differently, a platform would supplement, not replace, OIC stock exchanges.

Dr Ali, today, Islamic finance is over the counter (OTC), and it needs to move to the transparent screen based platform. Platforms are about multiple price discovery and liquidity, connecting communities, better understanding counter-party risks, etc., however, ‘products and tools’ continue the never ending standardization conversation. At the end of the day, the market, as a whole, will decide on product standardization (for the time) via market liquidity. 

Dr Ali, your institution, working with private sector information providers, needs to establish a scalable blueprint that prioritise asset class platforms, both Islamic and OIC, with global reach over products and tools. Why both Islamic and OIC, as latter implies conventional? For the simple reason of transitioning to Shariah compliance/based, as majority of financing/investing in the OIC is conventional. To get to purity, one needs to go through the interim tolerance parameters and ensuing time period.

For example, today, it is possible to have a screen-based OIC Trading Platform for, say, listed equities that allow users to use any rule book, like IdealRating offering, for syariah screening. This would have all information, news, data, analytics, purification and zakat (formulas for) calculation, etc., about listed companies and listed products at the end of the user’s fingertips, hence, conventional efficiency for information intermediation.

Benefits of Platform

This level of efficiency should result in cross sell of Muslim country (i.e., emerging market) opportunities to non-Islamic investors, provide better transparency and accountability for listed companies and products, and direct order flow to the exchanges for order execution (no cannibalisation issues). 

In conclusion, Dr Ali:
Islamic Mega Bank + OIC Stock Exchange Content + Housed on Trading Platform = Balance Growth of Islamic finance to move beyond the country shores and for all of mankind!

Respectfully submitted and Wasalaams.
Rushdi Siddiqui
The writer is Thomson Reuters’ Global Head of Islamic Finance based in New York

(Business Times / 24 April 2012)
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Turkey showcases role of Islamic money and capital markets

The Central Bank of Turkey, which is hosting this year's IFSB Summit, is organising as a pre-Summit event, a landmark Country Showcase in association with the Yildiz Technical University in Istanbul on the pertinent theme "The Role of Interest-free Financial Instruments in the Money and Capital Markets."
The theme of the Turkey Showcase has important synergies with the Summit theme, 'Global Financial Reforms: The Changing Regulatory Model and Islamic Finance' which aims to evaluate whether reforms in financial regulation structure and prudential standards equally equip the Islamic financial services industry in addressing its future challenges as well as identifying the priority areas in the prudential regulation of Islamic finance that may need focus and attention by regulators and market players alike.
The main Summit on 16 and 17 May will discuss 'International Regulatory Initiatives to Enhance Global Financial Stability'; 'Impact of International Regulatory Initiatives on the Islamic Financial Services Industry'; 'Regulatory Harmonisation and Cross-border Linkages in Islamic Finance'; 'Global Financial Infrastructure of Islamic Finance'; and 'Global Regulatory Reform and the Prospects for the Islamic Financial Services Industry.' The Keynote Address of the Summit will be delivered by Dr. Mahmoud Mohieldin, Managing Director of the World Bank.
The Turkey Showcase will be opened by Prof. Dr Güler Aras, Dean of the Faculty of Economics and Administrative Sciences, Yildiz Technical University, who will give the keynote and welcome address. This will be followed by a panel discussion on "The Role of Interest-free Financial Instruments in the Money and Capital Markets", with the confirmed participation of Dr Ahmet Faruk Aysan, Member of the Board, Central Bank of Turkey; Bekir Sitki Safak, Executive Vice President, Turkish Capital Market Board; Dr Mustafa Kemal Yilmaz, Executive Vice Chairman, Istanbul Stock Exchange; Meliksah Utku; Deputy General Manager, Albaraka Turk Participation Bank; and Hulusi Horozoglu, Director, Global Islamic Banking, Head of Saudi Arabia & Oman, Citigroup. The panel discussion, which will be moderated by Mushtak Parker, promises a major opportunity for IFSB Summit delegates to engage with the latest developments and opportunities in the emerging Turkish Islamic capital market.
The Country Showcases, a traditional pre-Summit event, is an important platform for IFSB member and non-member countries to articulate their Islamic finance initiatives, incentives and experiences in adopting and promoting the growth of a sound and stable Islamic financial services industry. This year will feature two Country Showcases - Turkey and Malaysia. The Malaysia Country Showcase is organised by Bank Negara Malaysia in association with the Malaysia International Islamic Finance Centre (MIFC) initiative. Both Showcases will be held on 15 May 2012.
Another traditional pre-IFSB Summit event is a 'Special Session' in the afternoon of the same day of the Country Showcases, which normally focuses on a pertinent issue facing the industry. This year's Special Session on 'Promoting Financial Inclusion through Islamic Microfinance' could not be timelier.
Financial Inclusion, Microfinance and SME Financing - all part of the same coin - has now emerged as an important global agenda in ensuring sustainable long-term economic growth. The G20 summit in 2010 recognised financial inclusion as one of the main pillars of the global development agenda. While financial inclusion is part and parcel of the social and ethical goals that Islamic finance seeks to promote, there is a need for a more focused debate, from a comparative perspective, of the most efficacious institutional platforms, distribution channels and regulatory and supervisory structures in relation to Islamic Microfinance.
The Session will be chaired by H.E Yaseen Anwar, Governor, State Bank of Pakistan. Speakers include H.E Dr. Mohamed Khair Ahmed Elzubear, Governor, Central Bank of Sudan, Professor Dr. M. Azmi Omar, Director General, Islamic Research and Training Institute (IRTI), IDB Group; Michael Tarazi, Senior Policy Specialist, Consultative Group to Assist the Poor (CGAP), The World Bank; Jahangir Alam, Executive Director, Central Bank of Bangladesh; and Ali Sakti, Researcher, Islamic Banking Directorate, Bank Indonesia and Mr. Chams-Eddine Aklil, Chief Technical Advisor in Sustainable Economic Development Programme (DEVED), Deutsche Gesellschaft für Internationale Zusammenarbeit (GIZ), Germany.
(C P I Financial / 25 April 2012)

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The Debt Debacle: The Consequences and Resolve

“Just in 18 to 20 installments, you too could be the proud owner of this [name as expensive gadget that’s too expensive].”
“Swipe your card and this [family packaged furniture set] will be yours. We deliver instantly right to your doorstep, for no extra cost.”
“We accept all major credit cards for purchases above $10.”
“At a 12% interest, your monthly installments will still remain $10 per month. (Installments may take up to 35 years).”
“We offer 100% financing for all your needs. (Terms and conditions apply).”
“How long have you been dreaming of this home? How many times do you look at the gleam of this car... give us a call now, and we can turn all of your dreams into reality.”
Does the above sound familiar?
It probably does if you’re living somewhere in the West, or somewhere away from the West but where the nuances of financing and credit cards are becoming the norm.
Swipe that card and just wait and see. What ever you want or need is now yours. You can always pay it off later, even in a few installments. Online shopping? Not a problem. Key in a few numbers of your credit card and you can have that product delivered to your office or home within two days. Running low on cash and need to go on holiday? Apply for a personal loan – spend first and enjoy – dish out a few bucks every month as payback – you won’t even notice it.
This is the life of convenience.
The above scenarios are all too real and while it seems superficial to some, it is not that difficult to fall for the debt trap. It may seem harmless – those few dollars in monthly repayment - and at times, it may not even seem like debt.
The convenience of shopping with credit cards; being able to own something that you won’t be able to own otherwise; the ease of receiving something without putting up some hard work in the first place. It seems like the icing on a very convenient cake of life.
And because taking up loans and swiping credit cards have become the mainstream of spending, everyone, including Muslims, get caught up swiping credit cards and taking up loans, to the point that we forget that there is danger in committing to these types of spending habits.
In reality – and in Islam – this is what we call debt.
Living in the Mainstream Mode of Money

But the same goes for the television set that we purchased using the store’s flexi plan; the clothes that we purchase online by using a credit card; and the loan repayment on the car and on the house. When we enter into these types of transactions, we are technically in debt.Borrowing money to buy or finance something that we can’t afford in the first place means that we are going in debt. We owe someone, something; we owe someone money. It may look harmless to borrow a few dollars from a friend for a quick lunch, but in reality, that money is not ours, and we need to repay our debt. That is just a few dollars of debt over a meal.

Borrowing is allowed in Islam for sustenance over things that are necessary. God even stands by those who borrow money with sincere intentions to pay these funds back. There is a hadith that reads:
"Whoever takes people’s wealth intending to pay it back, Allah will enable him to pay it back." (Ibn Majah)

Prophet Muhammad (peace be upon him) also said:

"Allah will be with the borrower until he pays off his debt, so long as the loan is not for something that Allah dislikes." (Ibn Majah)
Perhaps a home and a car are seen as necessities today. But what about everything else? Gadgets, matching furniture, an excessive collection of clothes and accessories, second cars and second homes, quarterly holidays abroad... personal loans for personal shopping, personal loans for financing – how do these add up in light of the Quran and the Sunnah? Are they not luxuries, rather than necessities?
In the Quran, chapter 17, there is a verse that shuns over expenditure, something that is also hated, after miserliness:
{Nor overextend it (like a spendthrift) means, nor be extravagant in spending and giving more than you can afford, or paying more than you earn, lest you become blameworthy and find yourself in severe poverty.} (Al-Isra’ 17: 29) 
Credit card advertisements as well as easy installment plans may look harmless and even attractive, but it also hones in onto our nuances to end up spending extravagantly. Of course, it is subjective as to what constitues a “need” and a “want” from person to person but humans’ desires are often insatiable and these types of schemes play to our weaknesses. We all know that extravagance leads to greed and a propensity to show off, which in turn, leads to miserliness and attachment to materialistic wealth. Materialistic wealth roots us in the worldly affairs and causes us forgetfulness of the Hereafter.
When Usury Happens

Credit card companies and conventional banks are the tycoons of interest – they thrive on such income. Interest – also known as usury – is largely forbidden in Islam, defying the cause of lending to those who are financially in need:But besides extravagance, the sordid problem with debt is compounded when riba (usury) piggy-backs on loans and credit card plans. This causes borrowers, not only to be oppressed, but to incur sin.

{Allah will deprive usury of all blessing, but will give increase for deeds of charity} (Al-Baqarah 2: 276)
In a strong hadith, Abu Hurayrah related that the Prophet Muhammad said:
"On the night of the Miraj I came upon a group of people whose bellies were like houses. They were full of snakes which could be seen from outside their bellies. I asked Gabriel who they were, and he told me that they were the people who had practiced riba." (Al-Albani)
Even during his farewell sermon, Prophet Muhammad reminded sternly but kindly about the dangers of usury. He said:
"Allah has forbidden you to take usury; therefore all riba (usury) obligations shall henceforth be waived."
You would never hear of usury obligations being waived today. And many families are falling into financial hardship in repaying debt that is laden with usury. A house worth $200,000 could end up with an additional $100,000 worth in riba. A shopping spree at the mall worth $5,000 in credit card charges could have an additional $2,000 slapped on to them in the form of interest, and that is not even including late payments, which can often happen.
Being stuck in debt is torment. It is deadening and stressful, especially when there are still daily expenses that have to be paid, families that are also growing, and with them come multiple needs and wants. Another problem is also inflation – with the value of money decreasing, those who are in debt are wrangling with even less real income to deal with daily spending, repaying off loans and credit card bills and trying to put a bit of savings to salvage the future. Overwhelming debt can lead to bankruptcy and depression – there have even been cases of suicide relating to debt.
A Muslim in Debt
Taking on debt, whether interest-based or not, has some serious consequences as a Muslim. It was narrated by Aisha that the Prophet used to say in his prayer:
"O Allah, I seek refuge with You from sin and heavy debt. Someone said to him: “How often you seek refuge from heavy debt!” He said: When a man gets into debt, he speaks and tells lies, and he makes a promise and breaks it." (Al Bukhari & Muslim)
Imagine the Prophet being afraid of debt – he was afraid of debt as he was afraid of heavy sin!

"Now his skin has become cool for him." (Ahmad)When we purchase something with a “promise” of repayment in a stipulated number of installments, it begs to wonder whether we will live to see the debt through. Imagine the burden of debt being carried to the grave. The Prophet refrained from offering the funeral prayer for one who had died owing two dinars, until the companion Abu Qatadah promised to pay it off for him. When Abu Qatadah saw him the following day he said, I have paid it off, the Prophet said:

It is gut-wrenching to know that such a small price of debt can lead to harshness in the grave. Imagine being denied Jannah (Paradise) because of a few dollars. Narrated from the companion Thawban that Prophet Muhammad said:
"Whoever dies free from three things – arrogance, cheating and debt – will enter Paradise."
Gone were the days where people worked hard, saved up and then only purchased the goods that they needed. But with all sorts of financing and credit card schemes ruling the roost, the norm is to buy first and then pay later. Unbeknown to many, this type of culture actually pushes prices of goods and services to go up.
Think about it. Let’s say a standard home costs $300,000, for example, and only a handful of people have that amount of cash. This leaves the majority – let’s say 80% - of no-home owners with the option of taking up a housing loan, the prices of houses will continue to rise, as there is a provision of taking a housing loan, when you can’t actually afford a home in cash. Taking up loans also feeds income back to these institutions that are already thriving and growing on usury.
However, if the 80% majority just rejected house loans and refused to purchase a home through a loan, property developers would be forced to lower prices of homes to meet the market demand. Depending on the income bracket, this could mean a plunge in property prices and allow most of the 80% of purchasers purchase homes without having to incur debt. Banking institutions would also lose out on interest income and find ways to eliminate interest from their transactions in order to woo consumers. This may seem far-fetched, but if every single person bans together to combat interest, this could certainly be a possibility in the future – it just has to take a few to start the ball rolling, and that is an obligation upon all of us.
Undebting Ourselves: Plan, Work Hard and Ask God for Help

As for necessities, it is strongly encouraged to seek non-interest based forms of financing. Whether it is through true Islamic financing institutions or borrowing from friends and family with strong-willed intentions to pay back, interest-free debt could be a reality. Of course, it is best to ask those who hold the same beliefs about debt. Prophet Muhammad says:There are ways to avoid debt, or at least, curtail the amount of debt one can manage. Strictly separating needs from wants, with discipline and brutal honesty, helps us reduce the risk of going into large amount of debt.

"If anyone would like Allah to save him from the hardships of the Day of Resurrection, he should give more time to his debtor who is short of money, or remit his debt altogether." (Muslim)
Finding a loaner who believes in this makes borrowing less burdensome, but this does not absolve the need for strict repayment:
"The one who takes people’s wealth intending to pay it back, Allah will pay it back for him, and the one who takes it intending to destroy it, Allah will destroy him.” (Al-Bukhari)
Allah requires us to work hard (in a halal manner) in order to repay debt and always to make du’a to Him for guidance and strength in order for us to relinquish our debt on earth.
Prophet Muhammad entered the mosque and saw the companion Abu Umamah. He said:
"O Abu Umamah, why do I see you sitting in the mosque when it is not the time for prayer?
He said: Worries and debts, O Messenger of Allah.
The Prophet said: Shall I not teach you some words which, if you say them, Allah will take away your worries and pay off your debts?
He said: Yes, O Messenger of Allah.
He said: Say, morning and evening: ‘“O Allah, I seek refuge with You from worry and grief, and I seek refuge with You from incapacity and laziness, and I seek refuge with You from cowardice and miserliness, and I seek refuge with You from being heavily in debt and from being overcome by men."
Abu Umamah said; I did that, and Allah took away my worry and paid off my debt. (At Tirmidhi)
It is possible to be free of the dangers of debt. But it takes sincere intentions, determination and prayer to prevent going into debt in the first place.
Although borrowing is allowed, there is a grand obligation to be steadfast in repayments and only borrow from those who have similar beliefs – those who are stringently aware of the dangers of riba and those who strongly believe in helping those who are financially in need.

(On Islam / 24 April 2012)

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Friday, 27 April 2012

Lack of trading liquidity hinders sukuk growth

KUALA LUMPUR (April 27, 2012): The global Islamic bond market saw a 68% increase in value of new issuance to US$92 billion last year, with Malaysia at its epicentre. The domestic market accounted for 73% of the total new issuance and the domicile for 68% of the estimated US$210 billion worth of outstanding sukuk worldwide.
Under the Second Capital Market Masterplan (CMP2), the sukuk segment is expected to account for RM1.3 trillion or 46% of the total size of the domestic Islamic capital market. This translates to an average annualised growth forecast of 16.3% over the next 10 years.
While long-term growth in market size is intact, supported by the need to fund billions worth of planned infrastructure projects, one key challenge that is hampering the development of the global sukuk market is the lack of trading liquidity.
"There is a need to develop a more robust secondary market for sukuk that would enhance its appeal especially to active investors, such as fund managers,'' Securities Commission deputy chief executive Datuk Nik Ramlah Mahmood said yesterday.
This has led to the setting up of the International Islamic Liquidity Management Corp (IILM).
The IILM was established to facilitate cross-border liquidity management among institutions offering Islamic financial services by making available a variety of syariah-compliant instruments, including sukuk, on commercial terms, to suit the varying liquidity needs of these institutions.
It also seeks to foster regional and international cooperation to build a robust liquidity management infrastructure at national, regional and international levels.
But while the infrastructure is there, differing views among syariah scholars pose another challenge.
To overcome this challenge, sukuk issuers that seek to maximise their investor base are now opting for structures that are more broadly accepted by most jurisdictions.
"At the same time, increased engagement and exchange of views among syariah scholars and advisers should contribute to improved appreciation of these differences,'' Nik Ramlah said in her keynote address at a conference on the outlook for sukuk organised by the Asian Strategy & Leadership Institute.
(The Sun Daily / 27 April 2012)

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