This document is posted to help you gain knowledge. Please leave a comment to let me know what you think about it! Share it to your friends and learn new things together.
Transcript
OVERVIEW OF ISLAMIC FINANCEOVERVIEW OF ISLAMIC FINANCE
STRICTLY PRIVATE & CONFIDENTIAL
ISLAMIC FINANCE COURSE : STRUCTURE & INSTRUMENTS ISLAMIC FINANCE COURSE : STRUCTURE & INSTRUMENTS JOINTLY JOINTLY ORGANISED BY ORGANISED BY
13 13 DECEMBER 2010DECEMBER 2010
BY AZRUL AZWAR AHMAD TAJUDINBY AZRUL AZWAR AHMAD TAJUDIN
CHIEF ECONOMISTCHIEF ECONOMIST
CONTENTSCONTENTS
� FINANCE AND ISLAM
� Definition
� Essence of Islamic Finance
� Inherent Features of the IFSI and its Stability and Resilience
� Milestones of Shariah Contract Application
� RISK MANAGEMENT FOR ISLAMIC FINANCIAL INSTITUTIONS
� Four Generic Risks and Four Unique Risks
� Unique Risks for Islamic Financial Institutions
� Shariah Non-Compliance Risks
ISLAMIC FINANCE COURSE 13-17 DECEMBER 2010Page 2
� Shariah Non-Compliance Risks
� PAST, PRESENT AND FUTURE
� Evolution of the IFSI: Early Days
� Evolution of the IFSI: Present Day
� Evolution of the IFSI: Beyond Nations with Large Muslim Populations
� Evolution of the IFSI: What the Future Holds
� Composition of the IFSI
� Islamic Financial System: Case of Malaysia
� Global IFSI Architecture: International Islamic Financial Infrastructure
CONTENTS (continued)CONTENTS (continued)
� SELECTED IFSI SEGMENT: ISLAMIC BANKING
� Fundamentals of Islamic Banking
� Overview of Islamic Banking Activities
� Review of Global Islamic Banking
� Resilience of Islamic Banking Amidst the Global Financial Crisis
� SELECTED IFSI SEGMENT: ISLAMIC CAPITAL MARKET
� Vibrancy of Islamic Capital Market
� Evolution of Sukuk
ISLAMIC FINANCE COURSE 13-17 DECEMBER 2010Page 3
� Evolution of Sukuk
� Why Choose Islamic Securities
� MOVING FORWARD
� Challenges
� Emerging Mega-Trends in Islamic Finance
� The Islamic Finance and Global Stability Report
FINANCE AND ISLAMFINANCE AND ISLAM
ISLAMIC FINANCE COURSE 13-17 DECEMBER 2010Page 4
DEFINITION DEFINITION
� Islamic finance, in contrast to conventional finance, involves the provision of
financial products and services by institutions offering Islamic financial services
(IIFS) for Shariah approved underlying transactions and economic activities,
based on contracts that comply with Shariah laws. Shariah, the basis for finance
that meets the religious requirements of Muslims in line with their ‘aqidah, is the
factor that distinguishes Islamic finance from conventional finance. Provision of
these Shariah compliant financial products and services must add value to the
real economy.
ISLAMIC FINANCE COURSE 13-17 DECEMBER 2010Page 5
� These IIFS may comprise:
� full-fledged Islamic financial institutions or market intermediaries
� Islamic subsidiaries or branches of conventional financial groups
� From its original meaning of “the way to the source of life”, Shariah is now used
to refer to a legal system with rules & principles and code of behaviour. To
ensure compliance with Shariah rules & principles, IIFS rely on an external or in-
house Shariah committee or board comprising Shariah scholars.
ESSENCE OF ISLAMIC FINANCEESSENCE OF ISLAMIC FINANCE
� The underlying intentions or objectives of Islamic finance:
� Elimination of riba (literally means increase or addition) i.e. usury or rent on money in
all forms and intents
� Prohibition of involvement in haram or non-permissible transactions or economic
activities such as alcohol, non-halal food, pork production, gaming/number
forecasting, prostitution
� Prevention of excessive leveraging
� Strong direct linkages to productive economic activities
� Avoidance of maisir i.e. speculation or gambling and gharar i.e. preventable
ISLAMIC FINANCE COURSE 13-17 DECEMBER 2010Page 6
� Avoidance of maisir i.e. speculation or gambling and gharar i.e. preventable
uncertainty or ambiguity in transactions
� Deterrence of zulm i.e. oppression and exploitation
� Introduction of safety net mechanisms for the benefit of the poor and the less-have
through Zakat (tithe) or Islamic tax, sadaqah (alms), waqaf (trust) and qard hasan
(benevolent loan)
� Upholding universal social, moral and ethical values with emphasis on maslahah
(public interest)
� Achieving ‘adalah i.e. justice and musawah i.e. fairness in the distribution of resources
ESSENCE OF ISLAMIC FINANCE (continued) ESSENCE OF ISLAMIC FINANCE (continued)
� Governing principles or applicable Shariah contracts in Islamic finance:
� Equity-based or profit-sharing contracts – Mudharabah (profit sharing and loss
INHERENT FEATURES OF THE IFSI AND ITS STABILITY AND RESILIENCEINHERENT FEATURES OF THE IFSI AND ITS STABILITY AND RESILIENCE
ISLAMIC FINANCE COURSE 13-17 DECEMBER 2010Page 8
relationships
• Equity-based
• Risk and reward sharing
which helps ensure greater
market discipline
� Unique risks specific to Islamic
finance
• Greater fiduciary duties & accountability
values
� Although the Islamic financial services industry (IFSI) is not totally insulated from
an economic slowdown given its strong linkages to real economic activities, it has
proven to be more resilient in times of crisis, mostly thanks to its intrinsic
stabilizers (or checks and balances) and in-built shock absorbent mechanisms
which act as inherent hedge against distress and crisis.
INHERENT FEATURES OF THE IFSI AND ITS STABILITY AND RESILIENCE INHERENT FEATURES OF THE IFSI AND ITS STABILITY AND RESILIENCE
(continued)(continued)
� These inherent features contribute towards the overall stability, soundness and
resilience of the IFSI. Indeed, according to the Islamic Finance and Global
Financial Stability Report, jointly published by the Islamic Financial Services Board
(IFSB), the Islamic Development Bank (IDB) and the Islamic Research & Training
Institute (IRTI) in April 2010, only 1 Islamic financial institution required
Government assistance in 2008 to restructure as a result of the then global crisis
as opposed to 5 of the world’s top conventional banks which received
Government assistance amounting to US$163 billion or 26% of their combined
equity. As at end-2009, no Islamic financial institution required any Government
ISLAMIC FINANCE COURSE 13-17 DECEMBER 2010Page 9
equity. As at end-2009, no Islamic financial institution required any Government
rescue scheme.
� All Shariah values and elements embedded in Islamic finance, which are
consistent with universal values, are similar to those that found in ethical finance
and socially responsible investing (SRI).
MILESTONES OF SHARIAH CONTRACT APPLICATION
1983-1990 1991-2000 2001-2005 2006-20082009
onwards
�Wadiah Current Account
�Wadiah Savings Account
�Mudharabah Financing
�Ijarah Financing
�BBA Financing
�Mudharabah Investment
Account
� Murabahah LC
�Sarf Forex
�Mudharabah Interbank
Investment
�Musharakah Financing
�Bay Inah Credit Card
�Bay Dayn, Musharakah,
Mudharabah ICDO
�Wadiah Debit Card
�Bay Inah Overdraft
�Bay Inah Commercial
Credit Card
�Bay Inah Personal
Financing
�Commodity Murabahah
Profit Rate Swap
�Commodity Murabahah
Forward Rate Agreement
�Ijarah Rental Swaps-i
�BBA Floating Rate
�Murabahah Floating Rate
�Istisna’ Floating Rate
�Tawarruq Business
Financing
�Tawarruq Personal
Financing
�Tawarruq Credit Card
�Murabahah with Novation
Agreement
�Istisna’ convertible to
ISLAMIC FINANCE COURSE 13-17 DECEMBER 2010Page 10
� Murabahah LC
�Musharakah LC
�Wakalah LC
�Bay Dayn Trade Financing
�Murabahah Working
Capital Financing
Financing
�Bay Inah Negotiable
Instrument of Deposit
(NID)
�Istisna’ Floating Rate
�Ijarah Floating Rate
�Mudharabah Capital
Protected Structured
Investment
�Bay Inah Floating Rate
NID
�Mudharabah Savings
Multiplier Deposit
�Tawarruq Commodity
Undertaking
�Istisna’ convertible to
Ijarah
�Bay and Ijarah (Sale and
Lease Back)
�Musharakah Mutanaqisah
�Istisna’ with Parallel
Istisna’
Note Note -- This listing is far from being exhaustive. This listing is far from being exhaustive.
RISK MANAGEMENT FOR RISK MANAGEMENT FOR
ISLAMIC FINANCIAL ISLAMIC FINANCIAL
INSTITUTIONSINSTITUTIONS
ISLAMIC FINANCE COURSE 13-17 DECEMBER 2010Page 11
INSTITUTIONSINSTITUTIONS
FOUR GENERIC RISKS AND FOUR UNIQUE RISKS FOUR GENERIC RISKS AND FOUR UNIQUE RISKS
� Management of the four generic risks for financial institutions, namely credit,market, liquidity and operational risks, is not straightforward in Islamic finance.The risks of financing with underlying assets such as Murabahah, Salam, Istisna’and Ijarah may transform from credit to market and vice versa at different stagesof the contract.
� For instance, under Murabahah and Ijarah contracts, an Islamic bank has toacquire a physical asset and then sell the asset back on credit or lease it. The riskto which this Islamic bank is exposed transforms from the price risk of holdingthe physical asset at the time of acquisition to credit risk at the time of sale ondeferred payment or lease.
ISLAMIC FINANCE COURSE 13-17 DECEMBER 2010Page 12
deferred payment or lease.
� In addition to these four generic risks, Islamic financial institutions will have todeal with another four unique risks:� Shariah non-compliance risk
� Rate of return risk
� Displaced commercial risk
� Equity investment risk
UNIQUE RISKS FOR ISLAMIC FINANCIAL INSTITUTIONSUNIQUE RISKS FOR ISLAMIC FINANCIAL INSTITUTIONS
Types of risks Definition
Shariah non-compliance
risk
Risk arises from the failure to comply with the Shariah rules and
principles
Rate of return risk The potential impact on the returns caused by unexpected change
in the rate of returns
Displaced commercial risk The risk that the Bank may confront commercial pressure to pay
returns that exceed the rate that has been earned on its assets
ISLAMIC FINANCE COURSE 13-17 DECEMBER 2010Page 13
returns that exceed the rate that has been earned on its assets
financed by investment account holders. The Bank foregoes part
or its entire share of profit in order to retain its fund providers and
dissuade them from withdrawing their funds.
Equity investment risk The risk arising from entering into a partnership for the purpose of
undertaking or participating in a particular financing or general
business activity as described in the contract, and in which the
provider of finance shares in the business risk. This risk is relevant
� Islamic Development Bank (IDB) and Islamic Research & Training Institute (IRTI)
� United Arab Emirates:
� Arbitration and Reconcialiation Centre for Islamic Finance
ISLAMIC FINANCE COURSE 13-17 DECEMBER 2010Page 25
SELECTED IFSI SEGMENT : SELECTED IFSI SEGMENT :
ISLAMIC BANKINGISLAMIC BANKING
ISLAMIC FINANCE COURSE 13-17 DECEMBER 2010Page 26
ISLAMIC BANKINGISLAMIC BANKING
FUNDAMENTALS OF ISLAMIC BANKINGFUNDAMENTALS OF ISLAMIC BANKING
� Islamic banking is the most mature IFSI segment:� having grown and is expected to continue growing at a faster pace than that of
conventional banking
� strong presence in the Middle East, South East Asia, Northern & East Africa and SouthAsia while making inroads into Europe and North America
� Financial relationship in Islamic banking is participatory in nature with risk-reward profile is guided by socio-economic principles:� Risk sharing through partnership in ventures – building expertise and understanding
of ventures being financed, importance of viability of ventures instead of solelycreditworthiness of customers and know-your-customer culture
ISLAMIC FINANCE COURSE 13-17 DECEMBER 2010Page 27
of ventures being financed, importance of viability of ventures instead of solelycreditworthiness of customers and know-your-customer culture
� Balancing act between pursuit of profit and fair and equitable distribution ofwealth/income
� The debtor-creditor or borrower-lender relationship in conventional bankingtransforms to mudarib (entrepreneur/capital user or investment manager)-rabbul mal (capital owner/provider or financier/investor) or more specifically:� Entrepreneur-investor or joint-venture relationship for Mudharabah and Musharakah
contracts
� Buyer-seller relationship for Murabahah and Ijarah contracts
� Agent-principal relationship for Wakalah contracts
OVERVIEW OF ISLAMIC BANKING ACTIVITIESOVERVIEW OF ISLAMIC BANKING ACTIVITIES
ISLAMIC FINANCE COURSE 13-17 DECEMBER 2010Page 28
REVIEW OF GLOBAL ISLAMIC BANKINGREVIEW OF GLOBAL ISLAMIC BANKING
SHARE OF GLOBAL ISLAMIC BANKING ASSETS BY COUNTRY (AS AT END-2009)
36.0%
16.0%10.0%
10.0%
8.0%
6.0%
3.0%2.0%2.0%
7.0%
Iran Saudi Arabia Malaysia UAE Kuwait Bahrain Qatar UK Turkey Others
Source: GIFF Report 2010Source: GIFF Report 2010
ISLAMIC FINANCE COURSE 13-17 DECEMBER 2010Page 29
� As at end-2009, according to the Banker Top 500 Islamic Institutions, Islamic
banking assets are mostly concentrated in Iran (36%), followed by Saudi Arabia
(16%), Malaysia (10%), UAE (10%), Kuwait (8%) and Bahrain (6%). Region-wise,
the 5 GCC countries hold the most Islamic banking assets with 43%. Top 7
countries account for 89% of global Islamic banking assets.
� Having grown by 15%-20% p.a. on average over the past decade to about US$780
billion in 2009 from around US$150 billion in the mid-1990s, Islamic banking
assets are expected to expand by more than 20% in 2010 to reach US$956 billion
to contribute more than 80% to IFSI assets.
Source: GIFF Report 2010Source: GIFF Report 2010
RESILIENCE OF ISLAMIC BANKING AMIDST THE GLOBAL FINANCIAL CRISISRESILIENCE OF ISLAMIC BANKING AMIDST THE GLOBAL FINANCIAL CRISIS
� Apart from intrinsic stabilisers and in-built shock absorbent mechanisms, othermain contributing factors to the resilience of Islamic banking during the 2008-2009 global financial crisis:
� Credit portfolios are mostly domestic – concentration of credit portfolios in domesticcustomers
� Focus on retail banking – rather low risk of a bank run due to high consumer loyaltyand deposit stability
ISLAMIC FINANCE COURSE 13-17 DECEMBER 2010Page 30
� Most Islamic banks are highly capitalised and have ample liquidity – limited risk ofsolvency or crisis of confidence among counterparts in the interbank money market
SELECTED IFSI SEGMENT : SELECTED IFSI SEGMENT :
ISLAMIC CAPITAL MARKETISLAMIC CAPITAL MARKET
ISLAMIC FINANCE COURSE 13-17 DECEMBER 2010Page 31
ISLAMIC CAPITAL MARKETISLAMIC CAPITAL MARKET
VIBRANCY OF ISLAMIC CAPITAL MARKETVIBRANCY OF ISLAMIC CAPITAL MARKET
� Islamic capital market which comprises equity, Sukuk and derivatives markets,remains the fastest growing IFSI segment globally with a CAGR of 40%. CurrentIslamic capital market assets are estimated to be worth US$130 billion.
� While the derivatives market has lagged far behind the other 2 Islamic capitalmarket subsets, the Sukuk market assets saw a CAGR of between 10%-15% overthe past decade to hit approximately US$100 billion at present.
� Based on Zawya’s Sukuk Quarterly Bulletin for the 3Q2010, some US$27.857billion were raised worldwide via Sukuk issuance during the first 9 months of2010, a 62% jump from a year ago.
� Global Sukuk issuance is expected to top the US$30 billion mark by end-2010 and
ISLAMIC FINANCE COURSE 13-17 DECEMBER 2010Page 32
� Global Sukuk issuance is expected to top the US$30 billion mark by end-2010 andcould even exceed the all-time high of US$35.5 billion set in 2007 in the best-casescenario given:� continuous global economic recovery despite at a much slower pace since the 2H2010
� more sovereign issues expected reflecting continued Government fundraising tofinance fiscal spending and for benchmarking purposes
� still low levels of interest rates despite monetary tightening or normalisation processin developing Asia while most developed economies maintain record low interestrates
� gradual private investment revival
VIBRANCY OF ISLAMIC CAPITAL MARKET (continued)VIBRANCY OF ISLAMIC CAPITAL MARKET (continued)
� In some jurisdictions such as Malaysia, the Sukuk market is even much biggerthan the conventional bond market, reflecting increasing investor appetite anddemand for Shariah-compliant assets.
� In fact, Malaysia has the world’s largest Sukuk market, in both denominationscombined (MYR and non-MYR). As at end-June 2010, Malaysia’s local currencySukuk outstanding stood at RM246.5 billion or equivalent to US$76.42 billion.
� Whether from the perspectives of issuers or investors, the Sukuk yield seemsmore attractive than its conventional counterpart. In general, investors are moreeager to grab Islamic offerings rather than their conventional peers as evidencedby the customary high over-subscription for new Sukuk issues.
ISLAMIC FINANCE COURSE 13-17 DECEMBER 2010Page 33
by the customary high over-subscription for new Sukuk issues.
EVOLUTION OF SUKUK
� Introduction & market
familiarisation
� Development of
markets, players &
products
� Very limited growth
� Confined to some
countries only e.g.
� Better growth in
market size players
� Additional product
features/structures:
* Istisna’
* Salam
* Ijarah
* Intifa’
� Acclelerated growth in
market size & players
� Broader & deeper
market
� Better market
understanding
� Innovative & new
product structures
� Maturing &
globalisation
� More breadth & depth
� More accelerated
growth
� Moving towards globally
accepted & highly
competitive structures
20001990 2004 2008 and beyond
ISLAMIC FINANCE COURSE 13-17 DECEMBER 2010Page 34
countries only e.g.
Malaysia
� Limited structures (debt
bonds):
* Bai Bithaman Ajil
* Murabahah
* Qard Hasan
* Intifa’
� Intoduction of Sukuk in
the global market
* Malaysia Global
Sukuk (2002)
* Qatar Global Sukuk
(2003)
� Stronger growth of the
Sukuk market globally
product structures
(non-debt)
* Mudharabah,
Musharakah
* Islamic ABS
* Istisna’-Ijarah
* Convertible Sukuk
* Exchangeable Sukuk
competitive structures
� Activating the
secondary market for
Sukuk
� More & more product
innovation
� Unlocking new asset
classes
� Development of Sukuk
yield curve & pricing
benchmark
Source: Securities Commission MalaysiaSource: Securities Commission Malaysia