Islamic Finance gif
Pierre Weimer- skirch, Managing Partner, Luxem- bourg Investment Solutions S.A., Luxembourg
examples are alternative assets such as insurance-linked products, precious metals or PE/VC investments
What do you personally feel are the major chal- lenges faced by Islamic investors? Islamic investors face a number of challenges in today’s world:
• Islamic investors have today the choice of a broad range of Islamic products. However it is still lacking the depth and breadth of conventional products. This implies that Is- lamic investors do not dispose of the same efficient market portfoliosthey can chose from in terms of risk/return as conventional investors. In volatile times as today, inves- tors are looking for the most efficient risk/ return products. In case of absence, Islamic investors are likely to invest into conven- tional products.
• Scale is important, but varying interpreta- tions of Shariah have fragmented the mar- ket into local niches, making it difficult to target globally. In this respect, most of the Islamic investment funds lack the critical size and average costs are higher com- pared to conventional products.
• Products and services must be designed in line with potential investors expectations. Considering that the largest potential pool of investors for Islamic products are Islamic foundations and Takaful companies, these investors are potentially looking for more conservative products and superior client service.
• In order to raise capital from investors the asset manager has to have a good track record. The experience has to be gained in a well regulated and developed market and products are rolled out from there.
What are key aspects that investors should focus when devising an Islamic market invest- ment portfolio? In the current times, the focus of Islamic inves- tors is very similar to those of conventional inves- tors when devising an investment portfolio:
• Diversification: The events over the last five years have shown that it is important to have a broadly diversified investment port- folio. This is not only true in terms of geo- graphical diversification but also in terms of asset classes and currencies. More and more investors are looking to add uncorre- lated assets to their investment portfolio.
• Uncorrelated assets:The strategy is based on building a portfolio of uncorrelated as- sets. Uncorrelated assets are asset classes that don’t necessarily move together. Good
• Size and track record: Size of the invest- ment fund and track record of the invest- ment manager are other important factors to take into consideration. The challenge with Islamic funds is to invest in a fund which has a decent asset size or potential in order to have an acceptable total expense ratio. Today many Islamic funds do not have an economically efficient size. Another im- portant factor is track record. A long term, consistent track record of a manager pro- vides reference towards the likelihood of future success and thus to the likelihood of attracting investors’ money.
• Purchasing power protection: With regards to theflooding of the financial markets of abundant liquidity by the major central banks of the world to prevent a meltdown of the financial system, investors are seeking protection against purchasing power risk and inflation by investing a portion of their wealth into real assets. Over the last year, the demand for investments into core real estate in best locations in major cities have increased substantially.
What is your perspective on the potential of the Islamic investment industry? After years of strong growth, Islamic finance has lost its momentum. While the global Islamic fi- nancial industry has recently cracked the USD 1 trillion mark, Islamic finance has not found back to the strong pre-crisis growth rates of 15 – 20 percent per annum. Islamic finance is still a nas- cent industry.
As every young company or industry it hasto over- come some major challenges in order to progress from one growth stage to the next.Understanding and meeting these challenges is important in or- der to reach the next growth
stage.There are a number of challenges Islamic finance faces:
• No global Islamic finance market:the Is- lamic finance market is mostly local at best regional. Islamic fund management is still a very local market. The Islamic fund industry is very scattered. Further to an Ernst&Young study 70 percent of the Islamic fund man- agers are below the threshold of USD 80 million assets under management which is believed to be the needed break-even point. In addition, different Shariah frameworks in Gulf Cooperation Council countriesand Ma- laysia hamper the development of a global Islamic finance market.
• Varying interpretation of Shariah law: Shari- ah law is open to interpretation and Shariah boards can havedifferent views on certain Shariah matters. In some occasions it may happen that opinions may deviate from previous decisions made by other Shariah scholars. This happened recently for Sukuk issues. A major catalyst for global accept- ance and growth of Islamic finance is the standardization of Shariah law in order
to avoid different interpretations and rul- ings inconsistencies. Malaysia introduced in January 2011 a Shariah Governance Framework for Islamic financial institutions at national level. A similar framework at international leveland publically available documentation of Fatwa rulings would fur- ther help aligning and standardizing the regulatory framework of the industry.
• Missing product authenticity: Most of the Islamic products seem to be a copy of con- ventional products adapted to the Shariah framework. This adaptation comes with some costs which put Islamic products at a performance disadvantage compared to its conventional look alike. The Islamic finance industry has to come up with genuine prod- ucts that inherently meet standards and requirements of Shariah.
• Lack of adoption of Islamic products by cer- tain type of customers: The sensitivity for Shariah products for certain type of inves- tors is rather low. Ernst & Young estimates that the propensity to invest in Shariah- compliant products or assets ranges be- tween 20 – 25 percent for High Net Worth Individual Investors and only 5 – 10 percent for Sovereign Wealth Funds from the Mid- dle East. These investors hold however a substantial amount of wealth which is held today mostly in conventional products. Rea- sons may be for example the lack of specific Islamic products or investment opportuni- ties or Shariah structuring costs being too high. As there is a strong linkage between Islamic finance and Social Responsible/ Ethical Investments, putting Islamic finance into this area could potentially increase the adoption of Islamic products by other type of investors.
• Regulatory hurdles: It is interesting to note that Shariah is often in conflict with local laws in Middle Eastern countries when it comes to the design of Islamic products. Rules and regulations are laid out for con- ventional products. The launch of Islamic products renders thus necessary a review of local laws and regulations as well as a new way of thinking for central bankers and regulators.
Several international financial centers like for example Luxembourg, Singapore or London can help Islamic finance in different ways to lay the grounds to reach the next growth stage. Luxem- bourg can for example help to create a critical mass in Europe by acting as a hub and permitting Islamic finance to leverage on the expertise of the financial center with regards to cross-border distribution of Islamic funds.
However, in the end, the new catalyst for Islamic finance must come from Muslim countries.
2012 May Global Islamic Finance 21
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