Francisco Alcoba CruzRaúl Martínez-Avial Jiménez
Outline Bases of Islamic Markets Role of Women in Islamic Markets Evolution of Islamic Markets through History Investment and Finance Islamic Banking Money Laundering SME’s Rating Agencies Financial Crisis Malaysia
Bases of Islamic Markets Islamic Finance is based on Shariah: Shariah lexically means a way or path. In Islam Shariah refers to the divine guidance and laws given by the Holy Quran, the Hadith (sayings) of the Prophet Muhammad and supplemented by the juristic interpretations by Islamic Scholars. Shariah embodies all aspects of the Islamic faith, including beliefs and practices.
Bases of Islamic Markets Source: Islamic World Students
Bases of Islamic Markets Shariah law is based on:1. Prohibition of interest (Riba)2. Risk sharing3. Prohibition of speculative behavior (Gharar)4. Sanctity of contracts5. Investing in unlawful business (Haraam)
Bases of Islamic Markets Riba: It’s the main principle of Islamic law. Riba, which means “excess” , interpreted as “any unjustifiable increase of capital whether in loans or sales” is the central doctrine of the system. Indeed, any positive, fixed, predetermined rate tied to the maturity and the amount of principal is considered Riba and therefore totally forbidden. Riba also covers the charging of interest. Because interest is prohibited, fund suppliers are considered as investors and not as creditors.
Bases of Islamic Markets Risk Sharing: Investors share business risk as they share the profit. Money is considered as a medium of exchange. So, charging interest on loans is considered unjust since money is viewed as an intermediary between goods.
Bases of Islamic Markets Gharar: Excessive uncertainty and speculative behavior are totally prohibited. An islamic financial system discourages hoarding and prohibits transactions that involve extreme uncertainty, gambling and risk. Gambling (Maysir) invokes enmity among the parties. Gharar involves a sense of legal trepidation. Commercial gain itself is not prohibited but uncertainty is forbidden. Therefore, taking economic initiatives that do not involve uncertainty is not that easy.
Bases of Islamic Markets Sanctity of contracts: Islam holds the contractual obligations and the disclosure of information as a sacred duty Reduce the risk of asymmetric information and moral hazard Investing in unlawful business (Haraam): Only Shariah approved activities are allowed. They do not violate the rules of Shariah qualify for investment, which means that investing in unethical sectors such as casinos, tobacco companies, wine, alcohol and sex-business is totally prohibited.
Shariah Compliance All of Islamic financial products and services all over the world have to be Shariah Compliant ( Obey Shariah principles) The Shariah Advisory Council of Bank Negara Malaysia (SAC) was established in May 1997 as the highest Shariah authority in Islamic finance in Malaysia. The SAC has been given the authority for the ascertainment of Islamic law for the purposes of Islamic banking business, takaful business, Islamic financial business, Islamic development financial business, or any other business, which is based on Shariah principles and is supervised and regulated by Bank Negara Malaysia
Tradition Progress Source: Islamic World Students
Evolution of Islamic Markets through History -
IM through History Muslims have a great trade and business tradition. Their holy book, the Quran, tell them to do it. So they have been in business world since ever Source: Islamic World Students
IM through History The founding of the first large Islamic banks in the 1970s, including Dubai Islamic Bank and Albaraka Banking Group, is generally considered to mark the birth of modern Islamic finance The industry’s growth, however, really began to accelerate in the early 1990s, bolstered in large part by liquidity in the Gulf from one crucial source: oil.
IM through History The influx of capital generated by rising oil prices has spurred massive investment in infrastructure and real state development projects in the Gulf Cooperation Council (GCC) states of Bahrain, Kuwait, Oman, Qatar, Saudi Arabia and the United Arab Emirates, driving demand for sukuks (Islamic bonds) and loans. There were some difficulties of adaptation in the North of Africa to Shariah because of misunderstantings but nowadays NA is a completely integrated Islamic Market
IM through History Countries such as Jordan, Tunisia and the Sudan, in contrast, have welcomed Islamic finance as an opportunity to foster economic development. Gradually those nations with mainly Muslim populations that had hesitated to permit Islamic banks have started to embrace such institution (i.e. Tunisia and Morocco)
IM through HistoryThe biggest step; Non-Muslim Countries:Step by step, Islamic Finance has been growing during all these years and it getting more present in countries with muslim population but which are not mainly Muslim countries.Here we find some successes and failures of IF in these nations
IM through History The first Islamic mortgages in Europe were offered in 1988 by Al Baraka Bank to Gulf Arabs for properties in London, with the mortgages structured through an ijara rental contract.
IM through History In Spain, Bancorreos, the entity created by the Post and Deutsche Bank, offers financial products adapted to more than a million Muslims living in our country, with interests ranging from 0% to 3% interest, that the latter peak Islam allows. For now, the bank offers other Islamic products. Also Caixa Banco Santander offer Islamic mortgages at interest 0, although the difficulties in launching these products, which have had to be approved by Islamic committees, and what little savings they currently are in the hands of Muslims in our country suggest that now multiply the offer despite rumors of the imminent opening of a wholly Islamic bank in Spain.
IM through History Not only finances are present in non- Muslim Countries. Recently the Muslim population gave the current president of French Republic, Mr. Hollande, the necessary votes to win the elections
IM through History But everything is not success, Islamic Finance also have to make some more efforts in another non Muslim countries. For example, on May 27th 2012 it was published in an Spanish newspaper: “Kansas approves a preventive law against Shariah”
Debts Based Murabaha: (Buy-sell arrangement)Essentially works by borrower asking lender to purchase asset on the understanding that after lender has purchased asset, borrower will purchase asset from lender. Bai’ al-Inah: (Sale and buy-back) Lender purchases asset on behalf of borrower. Borrower purchases asset from lender on deferred payment basis. Asset is immediately resold to lender for cash at discount. Preferred financing mechanism if there is any danger that lender will become insolvent.
Debts Based Bay Salam:(LIBOR plus margin) It can be used to provide working capital. The main difference with Murabaha is that, while the financier still buys an asset, the delivery is deferred. Usually, the financier will receive a discount for advance payment typically calculated by reference to a benchmark Istisnaa :(custom manufacturing) Is a sales contract for custom manufactured goods which may be used for public and private project financing. To produce, the seller uses his own raw materials.
Equity Based Musharakah: (Partnership or joint venture financing) An arrangement between a lender and a borrower where both parties agree to make a capital contribution towards financing a commercial operation. Parties agree to share profits from the arrangement at a pre-agreed ratio. Losses from the arrangement need to be shared pro-rata to the capital contributions of each of the parties. Mudarabah: (Profit sharing)Islamic investors agree that a Mudhareb (trustee) will provide skill and expertise. Mudhareb agrees to hold and manage the assets for Islamic investors. In return for providing services, Mudhareb earns an agreed share of profits from the assets managed on behalf of Islamic investors. Mudhareb cannot claim any right to the assets - merely acts as manager and trustee of assets.
Leasing Ijarah: (Leasing)It’s a leasing agreement in which the bank buys an asset for a customer and then leases it back over a specific period. The customer has to pay a rent, representing an agreed profit typically calculated upon a benchmark, such as the libor + a margin. The difference between Ijara and a conventional finance lease is the increased risk that the financier takes in relation to the asset. Ijara-wa-iqtina: It’s the same contract but the customer is allowed to buy back the item when the contract ends
Services Hawala: Literally: bill of exchange, promissory note, check or draft. Technically: the debtor passes the responsibility for payment of its debt to a third party who is himself his debtor. Responsibility for payment lies and ultimately to a third party. The Hawala is a mechanism for settling international accounts by book transfers. It removes a large extent the need for physical transfer of cash. Kafala: Underwriting agreement by which third guarantees the debt of an agent in debt. The responsibility for the debt vis-à-vis the creditor returns and the two counterparties of the contract. As for the contract Hawala, Kafala does not generate fees beyond administrative costs.
Services Rahn: Contract under which an agent provides a debt via a collateral (pledge). This type of contracts designed to mitigate counterparty risk borne by the creditor. The advantage of this contract is that it allows the agent to present a property in his possession as collateral while keeping its use and run property Wadiah: (Safe-keeping) Agreement between two parties where on agrees to look after the property of another. Concept is used to take deposits of money, where bank acts as custodian of money deposited by customer. Bank agrees they will refund sums deposited “on call”, i.e. on demand.
Sukuk - Bonds They are Islamic bonds. They are medium or long term, islamically compatible trust certificate backed by certain approved assets, usufructs or services . What makes a sukuk acceptable under shariah law is that it must be backed by a real asset such as a piece of land, a building or an item of equipment, and therefore when sukuk are bought and sold the purchaser and seller are dealing indirectly in a real asset, and not simply trading paper.
Sukuk - Bonds Source: Emerging of Islamic Finance
Sukuk – Bonds vs Eurobonds There are certain differences between conventional bonds and Sukuk. A bond represents the issuer’s pure debt, while Sukuk represent ownership stake in an underlying asset. An Ijarah contract that is often used to structure sovereign Sukuk creates a lessee/lessor relationship which is different from a lender/borrower relationship. Because of the segmented market structure, Sukuk offer lower returns compared to conventional bonds. Sukuk are also illiquid instruments compared to conventional bonds due to the lack of secondary market activity.
Islamic Banking- Difference betweenconventional banking and Islamic banking Bank Goods & Client Services money Islamic Source: Islamic Banking Glossary
Conventional Banking Islamic BankingMoney is a commodity besides medium of Money is not a commodity thought itexchange and store of value is used as a medium of exchange and store of valueTime value is the basis for charging interest Profit on trade of goods for charging onon capital providing service is the basis for earning profitInterest is charged even in case the Islamic bank operates on the basis oforganization suffers losses by using bank’s profit and loss sharingfundWhile disbursing cash finance, running The execution of agreements for thefinance or working capital, no agreement exchange of goods & services is afor exchange of goods & services is made. must while disbursing funds under Murabaha, salam & Istisna contractsConventional banks use money as a Islamic banking tends to create link withcommodity which leads to inflation the real sector of the economic system by using trade related activities.
Conventional banks Islamic BanksThe investor is assured of a pre determined In contract it promotes risk sharingrate of interest between provider of capital (investor) and the user of funds (entrepreneur)Lending money and getting it back with Compounding calculation is strictlycompounding interest is the fundamental prohibited under Islamic banking systemfunctions of the conventional banksIt can charge additional money incase of The Islamic banks have no provision todefaulters charge any extra money from the defaulters.Conventional banks invest their deposit in Islamic banking only deals in Halalinterest based modes products and services, all transactions must be in SHARIAH COMPLIANCEThe status of a conventional bank, in The status of Islamic bank in relation to itsrelations to its clients, is that of creditors clients is that of Partners, Investors, andand debtors. Trader, Buyer and Seller.A conventional bank has to guarantee of Islamic banks cannot guarantee of all itsall its deposits. deposits.
SME’S Small and medium enterprises (SME) sector has a great potential for expanding production capacity and self-employment opportunities. Enhancing the role of financial sector in development of SME sub-sector could mitigate the serious problems of unemployment and low level of exports. It can safely be said that Islamic banking has a great potential of playing an effective role in the development of a country.
SME’S THE PRINCIPLES OF ISLAMIC ETHICS IN SMALL AND MEDIUM ENTERPRISES (SMEs) Justice (‘Adl): Means to treat people equally is a pre-requisite of fairness and justice. Truthfulness (Sidqun): Is a basic ethical value of Islam. Islam is, in a way, the other name of truth. Allah speaks truth, and commands all Muslims to be straight forward and truthful in their dealings and utterances.
SME’S Benevolence (Ihsan):As far as kindness is concerned, benevolence to others is defined as an act which benefits persons other than those from whom the act proceeds without any obligation. It also means fineness, proficiency or magnanimity in dealing with others Sincerity (Ikhlas): Is generally understood to be truth in word and act. Trust (Amanah/I’timan): Trust makes cooperative endeavors happen. Trust is a key to positive interpersonal relationships in various settings because it is central to how we interact with others
Rating Agencies Islamic countries are mainly evaluated by one specific agency : “ The Islamic International Rating Agency” - “ ”
Rating Agencies Main pros of “IIRA”: Knowledge of region National / international scale rating Providing Sharia quality rating Investors/stakeholders want independent opinion on credit worthness of sharia compliant institutions & products
Rating Agencies: ScaleLong Term Rating Short Term RatingAAA.ns* A-1+.nsAA.ns A-1.nsA.ns A-2.nsBBB.ns A-3.nsBB.ns B.nsB.ns C.nsCCC.ns D.ns *The initials of the country for which a national scale ratingCC.ns is assigned will be substituted for “ns” in the above ratingsC.nsD.ns Source: Islamic International Rating Agency
Rating Agencies It is important not to forget that IIRA is not the only Rating Agency that evaluates Islamic Markets : S&P’s in 2006 were the first non- islamic rating agency in evaluating Islamic Markets. Standard & Poor’s was recognized for its work assigning ratings on Sukuk issues by DIFC Investments and the Jebel Ali Free Zone, which were named Deal of The Year and Best Sukuk, respectively. Moody’s Investors Service has been voted “Best Islamic Rating Agency” in Islamic Finance News 2008 Awards poll. The award recognises Moody’s superior ratings coverage of Islamic financial institutions ans Sukuk transactions during 2008
Financial Crisis Globalization Global Financial Crisis Everybody Affected
Financial Crisis But the Islamic Markets were not so affected because their trades and business relations are based on Shariah; and this means: No interest Speculation not allowed No loans among Banks
Financial No Toxic Assets Liquidity Lack of Non-Payment Risk
Malaysia Capital: Kuala Lumpur Language: Malaysian Government: Federal constitutional elective monarchy and Federal parliamentary democracy Ethnic groups : 50.4% Malay 23.7% Chinese 11.0% Indigenous 7.1% Indian 7.8% Other Currency: Ringgit (RM) Population: 28.859.154
MalaysiaRelation with Islamic Markets: The industry found a powerful ally across the Pacific in Muslim Asia It provided a means for the government to reach out to the underserved segment of its society by offering basic banking and insurance products that were compatible with Shariah principles Malaysia has issued new licenses to foreign fund managers and stockbrokers, and has increased the issuance of licenses in Islamic banks and takaful (Islamic insurance) companies
Malaysia The growth in Islamic finance in Malaysia has been supported by a significant investment in human capital; International Centre for Education in Islamic Finance (INCEIF) In 2008 Malaysia established the International Shariah Research Academy (ISRA) to conduct Shariah research on contemporary Islamic finance issues
Malaysia Malaysia has succeeded in developing a system that operates in parallel with conventional finance. The main Islamic financial organizations are; Bank Negara Malaysia ( Central Bank) Bank Islam Malaysia Berhad Bank Bumiputra Malaysia Berhad Traditional Banks Malayan Banking Berhad that also offer United Malayan Banking Corporation Berhad Islamic Banking To develop Islamic banking in Malaysia, were created and developed the so-called as IIMM (Islamic interbank market) and the ICM or Islamic Capital Market.
Malaysia Nowadays information: Islamic banking assets in Malaysia, the world’s biggest market for Shariah-compliant debt, rose 16 percent last year (2011) after the government approved new licenses and eased restrictions on foreign ownership, the central bank said. Assets that comply with Islam’s ban on interest increased to 350.8 billion ringgit ($116 billion) and accounted for 21 percent of the total banking system, according to Bank Negara Malaysia’s 2010 annual report published in Kuala Lumpur today