Time to show faith in Islamic finance

While it is largely an area which private banks have tended to shy away from, Islamic finance presents a huge opportunity to the wealth management community.

The Islamic financial services industry has the potential to manage assets worth $4,400bn, growing at 10 per cent per year, while the actual size of the industry today is just $1,130bn worldwide, according to the Global Islamic Finance Report 2011. But despite these available assets, private banks are not scrambling to get a piece of the market, some of them citing regulatory constraints. For instance, the Qatar Central Bank issued instructions to conventional banks operating in the country to cease Islamic financial services by the end of last year.

“This made conventional banks more nervous,” says Dr Humayon Dar, chief executive of BMB Islamic in London, which builds Islamic products for wealth and asset managers. He, nevertheless, is optimistic about the prospects for Islamic private banking.

This is largely due to favourable demographics. According to the Pew Research Centre, there are 1.6bn Muslims in the world, and this number is expected to increase by 35 per cent in the next 20 years. Cap Gemini and the Bank of America Merrill Lynch’s World Wealth Report recorded 400,000 high net worth individuals in the Middle East during 2010, with an estimated wealth of $1,700bn, up 12.5 per cent year on the previous year.

“There is a lot of wealth in the GCC (Gulf Cooperation Council) states and Muslim Asia, especially Malaysia,” says Najam Ahmed Khan, head of Islamic Finance at Commerzbank. “Investors, who are increasingly demanding and sophisticated, are looking to deposit their wealth in these regions without having to compromise on their religious beliefs.”

Despite these undoubted market opportunities, few international players have dipped their toes into the sometimes murky waters of Islamic finance. Notable exceptions have been ABSA, a subsidiary of Barclays Bank, which provides services to Muslims in South Africa, HSBC Amanah and Standard Chartered Saadique, which offer financial services in a number of Muslim countries.

Even fewer engage in Islamic private banking, though Bank Sarasin and Dexia Bank offer a number of products for wealth and risk management along Islamic lines. Fares Mourad, head of Islamic finance at Bank Sarasin, says the Swiss bank’s journey into Islamic finance started when they were looking at expansion into the Middle East and South-East Asia.

“When you look at the market, and see one third is Islamic, you need to decide whether you want to address this portion and in which form,” says Mr Mourad. Claiming to be the only Swiss private bank providing the full approach of Islamic finance banking, Mr Mourad describes Bank Sarasin’s as a “conceptual,” rather than a specific or product approach.

“We have a full comprehensive range of Islamic finance banking that goes from estate and succession planning to structured products, money market products and portfolio management,” says Mr Mourad.

“I haven’t seen any other Islamic or private bank addressing estate or succession planning,” he adds.

Wealth managers find numerous benefits in providing Islamic private banking services, such as access to newer markets and clients, where they have a lower degree of competition. They also align themselves with financial and business presence in the Middle East region, using the perfect opportunity to raise funds in local mid-east currencies for acquisition purposes or financing growth in the region.

“The main advantage is that you broaden the investor base by tapping a relatively new, but already developed market in order to make use of the increasing liquidity amid these countries,” says Mr Khan at Commerzbank.

“We are of the opinion that the Islamic capital market will grow even further in the coming years and that it will become a regular source of funding for Western corporate, governmental, and public sector issuers alike. As a consequence, we think it is worthwhile to undertake the first steps into the Islamic financing world rather sooner than later.”

Wealth managers cite an inherent lack of regulation and underdevelopment of the Islamic banking sector preventing growth of the industry. “Islamic private banking is still in its early days,” says Badlisyah Abdul Ghani, chief executive of CIMB Islamic, in Malaysia, which offers Islamic private banking services, in addition to conventional banking facilities.

“More products need to be developed, more innovation needs to be done to cater to the sophisticated needs of private banking clients. We also need effective regulation so these products can be developed and facilitated.”

While a few countries offer their own Islamic finance regulatory frameworks, there is no global regulation. This makes private banking difficult, as regulation in the GCC is not consistent with the regulation in Malaysia, or the rest of the world.

Bank Sarasin’s Mr Mourad feels regulation of Islamic private banking needs to be done in the same manner as conventional banking. “When it comes to Sharia, we do have our independent Sharia board that oversees activities on our products and services. It would be helpful if we have on a national level a board on the Islamic part of products and services,” he says.

“So we wouldn’t need to discuss issues with the client’s various Sharia boards all the time. This would facilitate the process. There are several countries who have taken this approach, such as Malaysia and Indonesia. I would welcome it if the GCC would do it on a GCC or a country level. What would be even better is if they did it on the Arab League level,” adds Mr Mourad.

John Sandwick, an independent consultant at Islamic Wealth & Asset Management based in Geneva, believes that the process of Islamic asset management is similar to conventional asset management in its first three stages, which include writing a client profile by establishing client risk appetite and investment goals, choosing an investment strategy, which reflects the client profile and formulating an asset allocation for the investment strategy.

It is only the fourth stage, of scanning all possible investments and choosing securities for the asset allocation which is different. This, he believes, is where all private banks claiming to do Islamic asset management go wrong.

“When you do security selection, you have to have a list of every investible product in your universe and for Muslims, you can only do Sharia compliant investible products,” Mr Sandwick says. To compile this list, he diligently worked over years along with a bunch of graduate students to build a database of Islamic investment products. As most asset managers lack such a list, Mr Sandwick feels they do not practice Islamic asset management.

“If you do not have the investible universe in front of you with all the data professionally organised, maintained and updated, then you can’t do Islamic asset management,” he claims.

Mr Sandwick’s favoured investment vehicles are mutual funds, which he says democratise investment, have low minimum purchase sizes, and a high degree of specialisation. He says even the most sophisticated investors use mutual funds for their allocations, as they can be used for small accounts, under $50m, usually invested according to funds-of-funds style.

He feels private banks are denying giving the clients what they want, and Muslims will not sacrifice their savings for inferior investments. “A lot of these banks get derivatives, call it a structured product, lap it with a fatwa and push that and only that on their Muslim clients,” says Mr Sandwick.

“Private banks are struggling with gigantic losses from the financial crisis and angry clients. They have fired employees right and left, they’ve got new regulations on tax disclosures, and are being regulated in market after market,” he explains.

“So they are fighting all these fires. What they don’t realise is that if they want a product or service to which clients can’t say no, and beat their competition, they should try Islamic. There is a mass of people who want it.”