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Monday, 8 October 2012

Islamic banking thrives as playing field levelled

Growing demand across a number of sectors, rational pricing and innovative products are trends that are shaping the future of Islamic banking and the finance industry
Despite continuing tensions across the Middle East and North Africa, key regions for this niche industry, Islamic finance continues to make headlines.
A well-publicised shortage of liquidity in the United States and European markets has resulted in organisations looking more towards funding from sources in the Middle East and South East Asia. There is a move towards more deals being funded from Islamic investors through the debt capital markets.
This uplift is also being driven by a better understanding of the products, their risks and their returns.

Education surrounding Islamic products has gained strong momentum following the spotlight turning on the "engineering" of financial products following the 2008 financial crisis.
This has resulted in accounting and financial bodies playing more of a role in the development, understanding and governance around the delivery of a wide range of Islamic products across the wholesale and retail sectors.
Globally, Islamic banking assets are said to be growing twice as fast as conventional banking assets and are expected to reach US$1.1 trillion (Dh4.04tn) this year, up 33 per cent from 2010.
The additional source of liquidity offered by Islamic finance has attracted the interest of non-Islamic market participants, especially where the pricing and commercial terms are identical to those used under conventional loan financing techniques.
As a result, it is no surprise that that a number of non-Islamic institutions have shown a desire to tap into the Islamic markets and diversify their sources of funding - with GE Capital, Nomura and Goldman Sachs notable examples.
As the popularity of Islamic finance continues to grow, so does its jurisdictional coverage and this has led to governments and central banks to promote the growth of Islamic finance.
Against this backdrop, western governments have taken steps to adjust their legal regulatory framework to accommodate Islamic finance products and, in the GCC, a new regulatory framework for Islamic finance is being pushed forward in Oman.
Broadly speaking, the approach taken by each of these governments has been to encourage growth through levelling the playing field - to ensure equal legal and regulatory treatment between Islamic and conventional forms of finance.
The strategic importance of becoming an Islamic finance hub should not be overlooked. Not only does Islamic finance provide an important source of liquidity, but it also is likely to play a significant role in the reshaping of global financial centres in the post-financial crisis, alongside more banking regulation.
The phasing in of Basel III standards around the world over the next few years is yet another factor that may ultimately favour Islamic banking.
These standards could potentially make trade finance activity more expensive by requiring banks to increase capital reserves.
However, Islamic banks have tended to adhere to stricter capital requirements, and are therefore less likely to have additional costs that affect their ability to compete in the lucrative trade finance space.
There will always be a demand for "real-economy" trade finance products, but the approach to Islamic trade financing activity has been quite patchy to-date.
However, over time, we should see Islamic trade finance establish itself as a strong cornerstone of the Islamic finance industry. Some would argue that the Islamic finance industry should already be doing a lot more to encourage this kind of trade activity.
Where the project finance market is concerned, there have been strong levels of project activity over the past few years in the Middle East as regional economies emerge from the shadows of the global credit crunch.
Saudi Arabia continues to dominate, but significant rebuilding and new infrastructure demands across the North African countries as they emerge from the Arab Spring will undoubtedly attract the further deployment of Islamic funds.
Although the demand for Islamic project financing continues to grow, concerns remain over whether Islamic banks have the necessary capital bases to fund the requirements of the larger projects on their own - without being integrated within a much wider "multi-sourced" financing arrangement.
Despite this concern, it is expected that the proportion of project financings that include an Islamic tranche will continue to grow and, furthermore, that the number of project financings that have multiple Islamic tranches to them - including of particular note, project sukuk - will also increase.
What is certain is that future prospects for the continued growth of Islamic banking look optimistic.
With the backdrop of the euro-zone crisis, as well as demand for rebuilding regional economies in the post-Arab Spring, Islamic finance looks set to grow in its wider appeal for a long time to come.
What is certain is the rise in popularity will continue; what is less clear is which countries will emerge as Islamic financing hubs and whether they will be compelling enough to attract some of the Islamic capital and investment away from the Arabian Gulf.

(The National / 07 Oct 2012)

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