University of Malaya “ Islamic Banking and International Financial Markets”   Andrew Sheng Third Chair  Tun Ismail Mohd Al...
Contents <ul><ul><li>How does Islamic Banking fit into International Financial Markets? </li></ul></ul><ul><ul><li>Evoluti...
Islamic Banking in Malaysia <ul><ul><li>One in 10 banking transactions in Malaysia today is Islamic-based </li></ul></ul><...
Islamic Banking Globally <ul><li>Assets of US$260 bn, mostly in Middle East, but growing in Malaysia and Indonesia </li></...
Need to Understand International Financial Markets <ul><li>International Financial Markets are a network of domestic marke...
Hierarchy of Domestic Financial Markets <ul><li>Asset-backed  </li></ul><ul><li>securities and  </li></ul><ul><li>derivati...
Evolution of International Financial Markets: Four phases <ul><li>1821-1914  Gold standard (international trade settled in...
<ul><li>International Monetary Fund, total quota (capital) of SDR213 bn (USD306 bn), 184 members (2005 data) </li></ul><ul...
<ul><li>Financial Stability Forum  – Central Banks, Ministries of Finance, IFIs, Standard Setters, Supervisory Agencies </...
Global Assets Under Management  (US$ trillion end 2003) <ul><li>International Banking Assets (BIS data)  23.6 </li></ul><u...
Who Accounts for Most Financial Assets?   (US$bn 2003) 53.7 19,251 7,026 5,994 4,833 1,398 United  States 16.0 5,724 493 9...
Size of Global Foreign Exchange Market Turnover   – Average Daily   (US$ bn) Source:  BIS, Triennial   Bank Survey 2004 18...
Currency Distribution of FX Turnover  (%) Source:  BIS, Triennial Bank Survey 2004 18.5 1.9 36.9 36.2 Other Currencies 28....
Stock Market Performance  (end Dec 2004) <ul><li>Australia 776.4 258 4,053 112 </li></ul><ul><li>China 447.7 925 1,330* 99...
Asia – 55% global population, 26% trade weight, but small in equity markets (%  of World, 2001)  MSCI   GDP  Exports  Popu...
Asia – The Third Zone? <ul><li>Asia is Third Time Zone to American and European time zones </li></ul><ul><li>New York (US$...
Asian Stock Markets – Third Time Zone Remark: Global market cap and turnover refer to the total of all member exchanges of...
 
Funding Sources to Corporate Sector  (US$bn, 2003) *Hong Kong, China, Australia, Korea, Singapore, Taiwan, Thailand, Malay...
Corporate Crude Leverage Ratio <ul><li>  1993  1998 2003 </li></ul><ul><li>Hong Kong 30.0% 55.4% 20.5% </li></ul><ul><li>C...
Demographics – around 300 million Asians earn US$5,000 or more annually; by 2020, discretionary spenders will grow to 1.4 ...
Deposit-taking Institutions – demographics changing customer pattern – growth of consumer banking, credit cards, demand fo...
8,000 hedge funds with US$1 trillion in assets under management – leveraged around 2-3 times Trading velocity much higher ...
3,000 private equity funds with unknown total assets under management – leveraged levels also unknown More involved in dir...
Positioning of Islamic Finance in global markets <ul><li>International financial markets are growing fast in sophisticatio...
<ul><li>Thank You </li></ul><ul><li>Address written questions to as@andrewsheng.net </li></ul>
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Islamic Banking and International Finance - Andrew Sheng

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  • In index terms, Asian markets performed poorly on the whole, with index declines in 5 out of 11 markets. Weak NJA stock market performance contrasted with overall decade of strong economic growth, interrupted by the Asian crisis. What accounts for this divergence in performance?
  • The debt/equity ratio reveals the extent of leverage the firm assumes in its financing decision and thus is indicative of its ability to withstand shocks to its future cash flow. Generally speaking, a highly-leveraged corporate sector is expected to suffer from more business failures in an economic downturn. The leverage ratio of emerging Asian economies was, on average, higher than US and UK, but lower than Japan and Germany. The leverage ratio of Mainland China stood at 409% in 2003, the highest among all Asian economies. Hong Kong companies rely less on debt than on equity financing. The debt to equity ratio of Hong Kong corporations in particular, was 21% in 2003, the lowest among all Asian economies. State-owned enterprises (SOEs) in China are highly-leveraged, and as long as this remains so, it would be difficult for monetary policy to operate. Increases in interest rates would hurt SOEs more than private sector firms. Restoring the debt equity leverage ratio of SOEs to a more sustainable and prudent level is a technical question of effectiveness of macro-policy, as well as a risk-management question at the micro-level. The high domestic savings in China could be used by securities markets to de-leverage Chinese enterprises, improve corporate governance, and enhance competitiveness. The de-leveraging has taken place in most Asian economies since the Asian Financial Crisis. In Hong Kong, the leverage ratio declined from 55% in 1998 to 21% in 2003. And the ratio dropped from 410% to 101% in Thailand, from 198% to 122% in Korea, and from 205% to 154% in Japan. While the leverage ratio has been declining in Asia, it is still higher than the level in 1993. The corporate sectors in Japan and Germany are traditionally highly-leveraged. The leverage ratio of US and UK firms increased modestly during the past five years.
  • Islamic Banking and International Finance - Andrew Sheng

    1. 1. University of Malaya “ Islamic Banking and International Financial Markets” Andrew Sheng Third Chair Tun Ismail Mohd Ali Visiting Professor in Money and Banking 16 March 2006
    2. 2. Contents <ul><ul><li>How does Islamic Banking fit into International Financial Markets? </li></ul></ul><ul><ul><li>Evolution of International Financial System </li></ul></ul><ul><ul><li>International Financial Architecture </li></ul></ul><ul><ul><li>Overview of trends in Asian markets </li></ul></ul><ul><ul><li>Issues in International Financial Markets </li></ul></ul>
    3. 3. Islamic Banking in Malaysia <ul><ul><li>One in 10 banking transactions in Malaysia today is Islamic-based </li></ul></ul><ul><ul><li>Islamic banking in Malaysia began with Pilgrims Fund Board in 1963, today 9.7% of total Malaysia’s banking assets or US$20 bn </li></ul></ul><ul><ul><li>Under Financial Sector Masterplan, target of Islamic banking assets and takaful assets to be 20% of total industry assets by 2010 </li></ul></ul>
    4. 4. Islamic Banking Globally <ul><li>Assets of US$260 bn, mostly in Middle East, but growing in Malaysia and Indonesia </li></ul><ul><li>International, non-Islamic banks issue around US$200-250 bn of Islamic financial instruments </li></ul><ul><li>With Muslims accounting for 1.6 billion or 25% of world population, demand for Islamic finance is growing </li></ul><ul><li>However, scale of Islamic financial institutions still small </li></ul><ul><li>Only 1 bank has capital exceeding US$500 mn. </li></ul><ul><li>Total Islamic banking account for 1% of global banking system </li></ul>
    5. 5. Need to Understand International Financial Markets <ul><li>International Financial Markets are a network of domestic markets </li></ul><ul><li>There is a hierarchy of financial markets, beginning with banks operating basic payments functions, and moving towards savings, foreign exchange, and then risk-sharing (equity), insurance and long-term pension functions. Derivative products emerge as markets become more sophisticated </li></ul><ul><li>Islamic markets emerge to fill market need </li></ul>
    6. 6. Hierarchy of Domestic Financial Markets <ul><li>Asset-backed </li></ul><ul><li>securities and </li></ul><ul><li>derivatives </li></ul><ul><li>Corporate bond and </li></ul><ul><li>equity markets </li></ul><ul><li>Government bond market </li></ul><ul><li>Treasury bill market and </li></ul><ul><li>foreign exchange markets </li></ul><ul><li>Money market </li></ul>
    7. 7. Evolution of International Financial Markets: Four phases <ul><li>1821-1914 Gold standard (international trade settled in gold or silver), essentially fixed exchange rates and free capital movement </li></ul><ul><li>1914-1946 First World War led to global imbalances, competing devaluations against gold and prevalence of capital controls </li></ul><ul><li>1947-1971 Bretton Woods, dominated by the US dollar, which was pegged to gold at US$35 to one ounce. Exchange rates could be adjusted, but capital controls were gradually removed </li></ul><ul><li>Post 1973 , oil crisis caused abandonment of fixed exchange rate regimes for floating rates. 1998 crisis pushed for more flexible regimes. </li></ul>
    8. 8. <ul><li>International Monetary Fund, total quota (capital) of SDR213 bn (USD306 bn), 184 members (2005 data) </li></ul><ul><li>World Bank (International Bank for Reconstruction and Development), capital US$38.6 bn, assets US$222 bn </li></ul><ul><ul><li>Other development banks, ADB, African Development Bank, EBRD, Inter-American Development Bank etc </li></ul></ul><ul><li>Bank for International Settlements (BIS), owned by member central banks, equity of US$14.9 bn and US$260.5 bn assets </li></ul>The Bretton Woods Architecture
    9. 9. <ul><li>Financial Stability Forum – Central Banks, Ministries of Finance, IFIs, Standard Setters, Supervisory Agencies </li></ul><ul><li>Major move to incorporate Emerging Market views </li></ul><ul><li>Greater coordination of efforts of different implementation agencies, eg IFIs, Standard Setters (eg IASC, IOSCO, Basle Committee) and supervisory agencies also represented </li></ul><ul><li>BIS acts as secretariat to FSF, currently chaired by Roger Ferguson </li></ul>Post 1998 Architecture
    10. 10. Global Assets Under Management (US$ trillion end 2003) <ul><li>International Banking Assets (BIS data) 23.6 </li></ul><ul><li>International debt securities 14.6 </li></ul><ul><li>Insurance companies 13.5 </li></ul><ul><li>Pension Funds 15.0 </li></ul><ul><li>Investment Companies 14.0 </li></ul><ul><li>Hedge Funds 0.8 </li></ul><ul><li>Other Institutional Investors 3.4 </li></ul><ul><li>Memo: OTC Derivative Contracts (notional) 270.1 </li></ul><ul><li>Source: BIS, IMF </li></ul>
    11. 11. Who Accounts for Most Financial Assets? (US$bn 2003) 53.7 19,251 7,026 5,994 4,833 1,398 United States 16.0 5,724 493 928 2,969 1,334 Japan 100 - 12.0 18.3 % of total - 35,862 4,320 6,567 Total 25.46 9,129 1,063 547 Investment companies 23.91 8,575 462 1,191 Pension Funds 29.41 10,547 1,009 1,736 Insurance 21.22 7,611 1,786 3,093 Int. Banking assets % of total Total Germany UK
    12. 12. Size of Global Foreign Exchange Market Turnover – Average Daily (US$ bn) Source: BIS, Triennial Bank Survey 2004 1880 107 944 208 621 2004 218.6 91.1 396.8 670.4 95.9 Growth (%) 100.0 590 Total traditional turnover 5.7 56 Estimated gaps in reporting 50.2 190 Foreign exchange swaps 11.1 27 Outright forwards 33.0 317 Spot transactions % of total 1989
    13. 13. Currency Distribution of FX Turnover (%) Source: BIS, Triennial Bank Survey 2004 18.5 1.9 36.9 36.2 Other Currencies 28.0 -10.6 -1.1 -1.8 % of Changes 200 16.9 20.3 37.2 88.7 2004 100 200 Total 8.5 13.2 Sterling 10.2 22.7 Jap. Yen 18.6 37.6 Euro 44.4 90.3 US$ % of Total 2001 Currency
    14. 14. Stock Market Performance (end Dec 2004) <ul><li>Australia 776.4 258 4,053 112 </li></ul><ul><li>China 447.7 925 1,330* 99 </li></ul><ul><li>Hong Kong 861.5 220 14,230 74 </li></ul><ul><li>Korea 389.5 103 896 -13 </li></ul><ul><li>Taiwan 441.4 78 6,140 -14 </li></ul><ul><li>Average** 535.0 184 45 </li></ul><ul><li>India 363.3 289 2,081 76 </li></ul><ul><li>Indonesia 73.3 55 1,000 113 </li></ul><ul><li>Malaysia 181.6 -4 907 -7 </li></ul><ul><li>Philippines 28.6 -50 1,823 -35 </li></ul><ul><li>Singapore 217.6 60 2,066 11 </li></ul><ul><li>Thailand 115.4 -8 668 -51 </li></ul><ul><li>Average** 163.3 51 31 </li></ul><ul><li>Japan 3,557.7 -1 11,489 -42 </li></ul><ul><li>Germany 1,194.5 139 4,256 102 </li></ul><ul><li>UK 2,865.2 150 4,814 57 </li></ul><ul><li>US 16,240.5 229 </li></ul><ul><li>(NYSE) 12,707.6 206 10,783 181 </li></ul><ul><li>(NASDAQ) 3,532.9 345 2,175 189 </li></ul><ul><li>Average** 5,964.5 134 130 </li></ul>Remark: * Shanghai A-share Index ** the average index performance is weighted by market capitalization Sources : World Bank, WFE, CEIC, Bloomberg, various central banks and government websites Market Cap Increase since Increase since Country (US$ bn) Dec 94 (%) Index Dec 94 (%)
    15. 15. Asia – 55% global population, 26% trade weight, but small in equity markets (% of World, 2001) MSCI GDP Exports Population Weighting ASIA 22.8 26.1 55.4 13.15 China 3.7 3.7 21.1 0.26 Japan 13.3 7.0 2.1 9.38 India 1.5 0.8 16.6 0.12 US 32.3 14.2 4.6 55.30 EU 19.6 36.0 6.2 17.14 Others 25.3 23.7 33.8 14.41 World 100.0 100.0 100.0 100.00 Source: IMF, World Economic Outlook, 2001 and World Bank, World Development Indicators, 2001.
    16. 16. Asia – The Third Zone? <ul><li>Asia is Third Time Zone to American and European time zones </li></ul><ul><li>New York (US$12.8 trn or 50% of global market cap) now services global + Latin American capital markets </li></ul><ul><li>European financial markets consolidating under EU and euro </li></ul><ul><li>Asia has tremendous savings, but lacks deep and liquid financial markets, with little integration among Asian markets </li></ul>
    17. 17. Asian Stock Markets – Third Time Zone Remark: Global market cap and turnover refer to the total of all member exchanges of the WFE. Categorization of regions is also based on the WFE.
    18. 19. Funding Sources to Corporate Sector (US$bn, 2003) *Hong Kong, China, Australia, Korea, Singapore, Taiwan, Thailand, Malaysia and India Source: International Financial Statistics, World Federation of Exchanges, BIS, IMF, CEIC, various central banks and government websites   Bank Credit to Corporate Sector (A) Total Capitalisation of Equity Market (B) Outstanding Amount of Corporate Bond (C) (A) + (B) + (C)   US$ bn % of GDP US$ bn % of GDP US$ bn % of GDP US$ bn % of GDP 9 Asian Regions* 3,345.3 86.1 3,171.7 81.6 392.9 10.1 6,909.9 177.8 Japan 3,770.3 87.8 2,953.1 68.7 769.7 17.9 7,493.1 174.4 US 4,975.4 45.2 14173.1 128.8 2,484.0 22.6 21632.6 196.6 UK 1,228.3 68.3 2,460.1 136.8 382.0 21.3 4,070.3 226.4 Germany 1,581.5 65.7 1,079.0 44.8 958.2 39.8 3,618.8 150.4
    19. 20. Corporate Crude Leverage Ratio <ul><li> 1993 1998 2003 </li></ul><ul><li>Hong Kong 30.0% 55.4% 20.5% </li></ul><ul><li>China 1,485.7% 463.0% 409.1% </li></ul><ul><li>Australia 70.1% 61.9% 63.9% </li></ul><ul><li>Korea 89.0% 197.5% 121.7% </li></ul><ul><li>Singapore 33.6% 86.3% 61.3% </li></ul><ul><li>Taiwan 66.2% 79.8% 54.6% </li></ul><ul><li>Thailand 73.8% 409.8% 100.5% </li></ul><ul><li>Malaysia 28.5% 135.6% 104.3% </li></ul><ul><li>India 60.6% 93.1% 67.4% </li></ul><ul><li>Total 89.0% 147.0% 117.9% </li></ul><ul><li>Japan 160.9% 205.1% 153.7% </li></ul><ul><li>US 81.9% 45.5% 52.6% </li></ul><ul><li>UK 41.5% 37.5% 65.5% </li></ul><ul><li>Germany 431.7% 254.4% 235.4% </li></ul><ul><li>Sources: World Federation of Exchanges, BIS, IMF, CEIC, various central banks and government websites </li></ul>
    20. 21. Demographics – around 300 million Asians earn US$5,000 or more annually; by 2020, discretionary spenders will grow to 1.4 billion. Huge demand for asset management and consumer banking needs Wealth management - private banking spreading from those with US$1 million or more to middle income professionals Mutual Funds - in US already US$7.5 trillion market, but becoming more leveraged – no longer just long-only funds; line between mutual funds and hedge funds blurred Market makers - Asian investment banks still small by any standard Outsourcing - over 100,000 jobs moved to India from US, worth US$136 bn in wages – trends will continue Key Capital Market Trends *
    21. 22. Deposit-taking Institutions – demographics changing customer pattern – growth of consumer banking, credit cards, demand for structured products Risk-pooling Institutions - still foreign dominated, but demand growing Contractual Savings Institutions - huge liquidity pools, but shortage of professional fund management skills Market Makers - key investment banking skills still dominated by large foreign players, with foreign fund managers as key clients Specialized Sectoral Financiers - policy-based banks shrinking in market size; venture capital and private equity becoming more important Financial Service Providers – exchanges demutualizing Recent Key Market Trends in Asia
    22. 23. 8,000 hedge funds with US$1 trillion in assets under management – leveraged around 2-3 times Trading velocity much higher than mutual funds - currently account for 40-50% of turnover in US and EU Fees around 1-2% of AUM + 20% of profits Larger funds around US$10-15 bn in AUM Depend upon prime brokerage for transactions and funding - if we do not allow in prime brokers, how can emerging markets benefit from hedge fund activities? Highly skilled business - talents drawn from fund managers and investment banks (ie difficult to home grow) Hedge Funds are driving the business *
    23. 24. 3,000 private equity funds with unknown total assets under management – leveraged levels also unknown More involved in direct equity investments rather than trading Fees around 1-2% of AUM + 20% of profits Longer lock-ups Larger funds of around US$5-10 bn in AUM In 1H2004, Asia raised US$5 bn, compared with US$3.3 for 2003 and US$3 bn for 2002 (compared with US$17.9 bn in 2000 and US$9 bn in 2001) – overall private equity investments in Asia estimated at US$8.6 bn Roughly 10% of UK pension funds invested in private equity - still early days for Asian pension funds * Private Equity Funds are reborn merchant banks sans regulation
    24. 25. Positioning of Islamic Finance in global markets <ul><li>International financial markets are growing fast in sophistication, speed and concentration. The larger markets are getting bigger and more dominant </li></ul><ul><li>Smaller and newer markets must offer superior service, speed and customer satisfaction in order to compete </li></ul><ul><li>Islamic finance must meet needs of corporate sector and savers in order to grow </li></ul><ul><li>There is huge potential for Islamic finance to grow. But success depends on creating transparent, fair and stable markets that satisfy customer needs. </li></ul>
    25. 26. <ul><li>Thank You </li></ul><ul><li>Address written questions to as@andrewsheng.net </li></ul>
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