Finance: Exponential growth of Islamic Financial Institutions
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Islamic finance institutions have become an important component of flourishing economies. Global demand for Islamic financial services has been driven by the rise in the Muslim Population which was estimated to be in excess of 1.84 billion at the end of 2007 (850,000 in South Africa) and is expected to reach 30% of the world’s population by 2025.
Islamic financing has been around for decades, or rather centuries, and more recently has been developing at a very fast pace, especially over the last decade. Development of Islamic Finance Institutions was initially required for the Muslims living in Muslim countries and for communities, such as the South African Muslim community, living in non-Muslim countries. Over time this has changed.
In 2007, 66% of incorporated Islamic funds had either Asia Pacific or Global mandates. For the first time, Islamic funds also exclusively targeted emerging markets. This marks a significant shift away from Middle East which has traditionally been the focus of Islamic funds.
Africa has been no exception. In June this year the formation of the National Islamic Bank of Uganda was announced. It is the first of its kind in that country and demonstrated the growing influence and presence of Islamic finance in Africa.
According to business monitor international (BMI) the burgeoning market for Islamic finance products continues to go from strength to strength, with global /sukuk/ issuances (the benchmark asset class among Islamic finance products) rising by 73% in 2007 to a record US$47.1bn, despite a slowdown across virtually all other finance sectors. Malaysia retained its position as the world's leader in this field (both by volume and value), accounting for approximately US$25bn of the global total, and indeed, remains the world's largest market for Islamic banking and financial products.
Currently 250 Islamic institutions in 48 countries represent assets of US$ 200 billion and are growing at 15-20% p.a. In actual fact, Islamic banking asset growth has exceeded the growth of conventional rivals since 2002, be it from a much lower base.
Islamic Finance institutions are becoming increasingly ‘mainstream’ with most conventional institutions now also including Islamic finance products in their offering, local examples being the introduction of Absa Islamic Banking division and the more recent introduction of the FTSE/JSE Shari’ah Top 40 Index (a partnership between the JSE and the FTSE Group). Internationally Japan is launching their first sovereign Sukuk (Islamic equivalent of a bond) by a G7, which would be placed in Malaysia and valued at US$300m-US$500m and the United Kingdom is also exploring a Sukuk issuance.
Research has shown that 70% of Muslims prefer to use Shari’ah compliant products. There however remain significant opportunities for Islamic Finance Institutions to expand their customer base beyond those who are Shari’ah sensitive. Increased interest from other markets which includes the United Kingdom, Europe and the Far East may indicate potential for future expansion of the Islamic retail offering. With these significant opportunities, the question arises as to how to align Islamic Finance Institutions in a conventional / commercial Market of Financial Institutions.
All Islamic Finance transactions are based on Shari’ah principles which are based on the sayings of Holy Quran and teaching of Prophet Mohammed (PBUH) and are further clarified by Shari’ah Scholars and Jurists. Basic and frequently used Islamic Financing transactions are linked to the nature of transactions conducted 1400 years ago, and are commodity based transactions, with cash not classified as a commodity. For this reason, some of the challenges for Islamic Finance Institutions are:
*Legal and Supervisory framework - The countries in which Islamic Finance transactions are executed does not always accommodate the Shari’ah principles in legislation. For example: Shari’ah principles require that ownership should pass to the financial institution before it is on-sold to the customer, the transfer of property could therefore result in double stamp duty and could also have direct or indirect tax implications.
*Accounting Standards – IFRS in some instances are deemed to not provide sufficient disclosure as users require more information compared to conventional counterparts (e.g. investment accountholders) require. For this reason the Accounting and Auditing Organisation for Islamic financial institutions (AAOIFI) was formed to solve accounting issues where conventional standards (IFRS) not deemed sufficient
*Liquidity of Secondary markets - Companies that take up Sukuk overrings tend to hold on to them and therefore Secondary markets are currently very underdeveloped.
*Shortage of experts – As the market grows the requirement for professionals with a detailed understanding of the available products approved by the Shari’ah Advisory board and Shari’ah Scholars to review compliance with Shari’ah law becomes a challenge for growth
The formation of AAOIFI as well as developments in countries like the United Kingdom, where over the last two years legislation and the regulatory framework has been amended to accommodate transactions concluded under Shari’ah principles, provides solutions to these challenges and as Islamic Finance Institutions grow this trend is anticipated to accelerate and expand to other markets, which will allow for the opportunities in this segment to be fully explored.
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