Islamic Finance gif
Ehsan Zaheed, Director & CEO, Amana Takaful, Sri Lanka
require the same intensity and kind of prudential oversight as conventional institutions.
What are the key aspects that investors should focus on when devising an Islamic market in- vestment portfolio? An Islamic investment diversification is a concept that is based on shariah principals and considera- tion of a number of different factors associated with the process of investing.
What do you personally feel are the major chal- lenges faced by Islamic investors? Formation of Islamic financial institutes - In the economic field, it was the biggest challenge for such Muslims to reform their financial institu- tions to bring them in harmony with the dictates of Shari‘ah. In an environment where the entire financial system was based on interest, it was a formidable task to structure the financial institu- tions on an interest free basis.
The people not conversant with the principles of Shari‘ah and its economic philosophy sometimes believe that abolishing interest from the banks and financial institutions would make them chari- table, rather than commercial, concerns which of- fer financial services without a return. Obviously, this is totally a wrong assumption. For commer- cial financing, the Islamic Shariah has a different set-up. The principle is that the person extending money to another person must decide whether he wishes to help the opposite party or he wants to share his profits. If he wants to help the borrower, he must rescind from any claim to any additional amount. His principal will be secured and guaran- teed, but no return over and above the principal amount is legitimate. But if he is advancing money to share the profits earned by the other party, he can claim a stipulated proportion of profit actually earned by him, and must share his loss also, if he suffers a loss.
The Shariah standards – its important that we have a minimum level of Shariah standards. Be it standardization or harmonization, its important that we have some kind of mechanism of account- ability and transparency when it comes to Shariah standards and rulings. This would make it easy for the Islamic investor to invest in products and not face issues with their own Shariah bodies who do not accept the rulings of the Shariah councils be it in the same country or cross border.
Lack of Shariah compliant investment options – very few available investment grade Shariah com- pliant investment options and the liquidity of the investments. Longer processes and documenta- tion requirements for Islamic instruments; Lack of long term investments; The inability of matching long term liabilities with long term investments have been a great challenge for the Shariah con- scious investors. Further the cost of the transac- tions too have been on the high side due to the initial structuring cost.
Legal and regulatory issues - The regulatory as- pects of Islamic financial transactions. In other words, on the one hand there is the legal question of whether the existing laws in a secular jurisdic- tion allow financial transactions to be governed by shari’ah principles. On the other hand, there is the regulatory question of whether Islamic institutions
The process of investing would involve a close look at many factors to determine how to go about choosing the right investments for a particular purpose.
The first key focus area in investment has to do with the goals for the investment portfolio. By determining how to diversify the portfolio while still balancing that diversification with the type of individual securities, the idea is to protect the in- vestor from downturns in one market by providing for upswings in value with other holdings. This is key to the investment process for investors who have specific goals for the income generated by the portfolio.
Higher the risk higher the return - Another impor- tant aspect of investment diversification has to do with evaluating investments based on the degree of risk and potential return. Here, the idea is to help the investor focus on options that carry an acceptable amount of risk while providing the greatest amount of return in a shariah complaint manner.
Efficient market hypothesis - this concept holds that all information that is relevant to making the decision to hold, buy, or sell an option must be readily available to the investor in order for the market to be truly efficient. Since knowing the past history, the current status, and the potential future risks associated with any investment is key to being able to make wise choices, the investor should determine if this situation of an efficient market exists before deciding to get involved with a given investment.
Goals and aims of the Shariah compliant investor, by taking into consideration the goals and aims of the investor, it is possible to build a portfolio that will help meet those goals. In order to wisely choose the right investments based on shariah principals, it is important to know all there is to know about the investment and the market in which it is traded. Examples for Islamic invest- ment diversification:
• Shariah Compliant Stocks-White Listed Eq- uity • Sukuk (Islamic bonds) • Shariah compliant exchange traded funds • Islamic real estate investing trust • Shariah compliant Unit trusts
What is your perspective on the future potential of the Islamic investment industry? Most conventional banks and financial institu- tions have turned to Islamic banking, This is a rap- idly growing industry due to its prudent levels of risk management.
Islamic finance adheres to Islamic law or Shariah law, which prohibits investing in businesses that contradict the Islamic principles of fairness and justness — that means, principally, that they are forbidden to charge interest on money loaned to others. It gained favor in recent years because the turmoil in the conventional financial markets highlighted the precariousness of banking that is based on interest, rather than underlying assets and service, this is the process used in Islamic Finance.
Islamic finance focuses on equity, trading, and leasing. Shariah law provides specific guidelines on how such products are structured and execut- ed, most recently by the scholars who promulgate rulings through the Accounting and Auditing Or- ganization for Islamic Financial Institutions (AAO- IFI), the world’s leading standard-setting body for Islamic finance. In terms of equity, a bank part- ners with a business by taking an equity share in all or part of the company, with profits and losses shared in proportion to ownership. An asset can only have one buyer or seller at any given time, unlike interest that allows cash to circulate and grow into enormous sums with a high-risk of de- faulting. As seen in the housing market crash in the US and Europe.
In the wake of a global financial crisis, Islamic finance has not only survived, it has grown, now totaling $1.2 trillion, approximately 1 percent of the global financial system. Islamic financial insti- tutions now exist in more than 75 countries world- wide. Although mostly concentrated in the Middle East and Southeast Asia, its practice is spreading to Central Asia and Europe. Even Eastern Europe, China, Australia and the United States are teach- ing Islamic finance in academic institutes. It’s become globally recognized in order to see how it benefits the global economy, It’s not something that is done overnight, there’s a lot of training on part of the institutions to know how to apply the system.
The financial crisis that came about has made most financial analysts and fund managers be- come prudent in the way they handle current investments. This sudden need to take care has been a constant when dealing with Islamic Fi- nance. As Shariah principles need to be followed by the fund managers. This laws inherently elimi- nate risk and speculation and elements of uncer- tainty. This process of careful fund management and good specific products aimed at certain mar- kets has brought about a certain growth in the market and would most certainly grow over time. This demand was not bought forward by the world Islamic community but also included the general public that was interested in Ethical finance due to fairness and other more desirable attributes. A simple example of this is how Islamic finance when dealing with Equity does not intend to make unethical short term gains and play into the game of speculation, in Islamic Finance it is made clear the operators of these funds are not allowed to take part in margin trading and short selling. The global recession has turned our attention to the shortcomings of interest-based finance, thus giv- ing an opportunity for the Islamic Financial sector
to develop and realize its true potential.
2012 May Global Islamic Finance 19
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