Islamic finance is no longer confined to the Muslim community. Richard Thomas looks at this evolving financial sector
Islamic, or Sharia compliant finance has evolved over the past three decades from a relatively unsophisticated framework of basic products into complex forms that are now accepted in mainstream financing and interact seamlessly with global treasury and capital markets. Today, worldwide monetised assets that comply with Islamic law are estimated to be worth between $700 billion and $1 trillion. Sharia compliant products are consequently of increasing interest to UK and European corporate clients looking at ways to diversify their financing options and their access to non-traditional markets.
Traditionally labelled as an ‘Arab’ form of financing, Islamic finance is in fact emerging as a credible alternative financing option in many countries, from Sweden to Australia. In more established markets such as Malaysia, where the UK has a Memorandum of Understanding to develop bilateral projects, Islamic finance is more broadly accepted as simply another form of financing. In other south-east Asian markets, Islamic finance continues to gather momentum. The first Islamic bank recently opened in China. Indonesia, Singapore and Hong Kong are also active centres and South Korea is showing keen interest.
With the development of depth and diversity in products, Islamic finance is no longer confined to the Muslim community. It has emerged as a useful financing tool for the conventional bank or corporate borrower. An indication, some believe, of things to come was General Electric’s (GE) flotation of a sukuk bond in November 2009 on the Bursa Malaysia. GE was the first US corporate to do so and the $500 million issue was twice oversubscribed.
In London, which is the principal centre for Islamic Finance in the West, the authorities have actively encouraged its integration into the conventional financial framework. In December 2008 the UK government set out a strategy that outlined objectives for developing Sharia compliant financial services. The government’s support has enhanced the country’s competitive edge in financial services by establishing the UK as an international gateway for Islamic finance.
It has also instituted legislation to create a level playing field for Islamic instruments and proposed a legislative framework for the regulatory treatment of alternative finance investment bonds (AFIB). The 2009 Budget introduced a number of advantageous tax changes for AFIBs.
The UK now has five Financial Services Authority-authorised ‘Islamic’ banks offering the full gamut of Islamic financial services. Gatehouse Bank, Bank of London and The Middle East, European Finance House, and European Islamic Investment Bank are primarily active in wholesale corporate finance and investment management, while Islamic Bank of Britain is the UK’s sole stand-alone retail operator. These banks offer support for UK and international companies pursuing partnerships or business opportunities in the Middle East and North Africa region or the wider Muslim world.
Islamic finance has, however, been met with enormous challenges. It has not escaped the global downturn despite Islamic banks being safeguarded by the nature of their Shariah principles against exposure to subprime mortgages and the other toxic assets that have hurt the balance sheets of so many of the world’s biggest financial institutions.
Stalled activity in the global sukuk market has placed added pressure on the growth of Islamic finance. However, despite the liquidity problems surrounding the Nakheel sukuk in Dubai, there is still Gulf interest in sukuk issues. Credit agency Moody’s predicts a recent spate of sovereign and government related issues will spur the development of a secondary sukuk market in the Gulf Cooperation Council. In addition, the success of General Electric’s sukuk bond flotation on the Bursa Malaysia last November points to a global acceptance by Western multinationals of sukuk as an alternative funding source.
Significantly, we are witnessing a greater appetite for Islamic finance, both by Islamic and non-Islamic investors, especially in the wake of the global market crash, seeking not only to diversify their portfolios but to take a more ‘hands on’ approach in assessing the risk-reward balance of individual investments.
As it is, a substantial amount of business transacted in an ethical or sustainable format may qualify as Sharia compliant. This demand for products and investments, while primarily fuelled by the world’s 1.3 billion Muslims, is supporting interesting crossover products that benefit from the same ethical criteria.
As Islamic finance continues to move into the mainstream market, what developments should we anticipate? An ‘Olympic’ sukuk flotation in the UK, or a major European infrastructure financing? Perhaps a universally accepted global ‘commodities’ platform on the Bursa Malaysia? Will there be a global agreement on the detailed structures of Islamic finance? It is anyone’s guess, but the expectation is that further traction will occur as Islamic finance continues to chart new territory.
CHARTING THE DEVELOPMENT OF ISLAMIC FINANCE
Islamic finance in its modern guise is popularly considered to have emanated from the Egyptian Nasser Social Bank experiment of the 1960s. In the 1970s and 1980s it spread quickly through the GCC with the establishment of national Islamic banks in Dubai, Kuwait and Qatar and the foundation of the Islamic Development Bank in Jeddah. In south-east Asia, Malaysia was developing a dual banking system which has been the model adopted throughout Asia.
The ‘first generation’ Sharia compliant products were geared to trade finance, the development or acquisition of property, equipment leasing and the management of savings. Capital market products did not appear until the late 1990s with the development of the Islamic ‘bond’ or sukuk. More recently, the development of the Islamic private equity model, comprising a basket of sophisticated asset management products, has further increased the scope of Islamic finance and its attractiveness to a wider client base.
Today, Islamic finance offers solutions across the product mix: from the capital markets related transactions mentioned above, to structured trade and commodity finance and working capital solutions, all sectors of asset finance including general equipment leasing, transportation and logistics, power generation, real estate (leasing tools are particularly given to Islamic finance), private equity and project finance.
Global Arab Network
Richard Thomas, CEO of Gatehouse Bank plc. This article is published in partnership with the Middle East Association, and was published by News desk Media in the Middle East Business Focus 2010 on behalf of the Middle East Association