Kiddie-Pool Islamic Loan Ending Indonesian Invisibility

BLOOMBERG.COM---Indonesia is counting on people like Nur Hanifah, a 50-year-old widow who sells plastic buckets and inflatable kiddie pools, to help it catch Malaysia, a country one-tenth the size that leads the world in Islamic finance.

Hanifah took out a Shariah-compliant loan from PT Bank Muamalat Indonesia after her husband’s death to help finance a store on the ground floor of a shophouse in Serang, two hours’ drive west of Jakarta. While she doesn’t pay any interest, borrowers like Hanifah typically must give the bank 40 percent of their profit plus part of the principal each month.

“When times are good, I pay more on my loan than most people,” said Hanifah, whose monthly take is about 50 million rupiah ($5,189). “But I won’t have to worry when times are bad. I don’t have to pay anything when I’m not turning a profit.”

Loans like Hanifah’s could help Indonesia, the country with the world’s largest Muslim population, narrow the gap with its neighbor. It’s speeding up government approvals and fixing a fragmented regulatory system as part of an effort to reach more unbanked Muslims and increase the portion of Islamic assets in the banking system to 15 percent by 2017, from 4.3 percent.

That’s creating opportunities for global banks includingStandard Chartered Plc (STAN) and HSBC Holdings Plc (HSBA), both based in London, which are issuing financial products that comply with Islamic law, or Shariah, as fast as regulators allow. It’s also attracting interest from Malaysian lenders across the narrow strait separating the two countries.

Quadrupling Share

“That’s huge growth we’re talking about, quadrupling the market share,” Wasim Saifi, Standard Chartered’s Kuala Lumpur- based global head of Islamic consumer banking, said in an interview in Singapore. “Indonesia is clearly one market where everybody sees the maximum growth potential.”

Indonesia’s central bank and its government approved new products and platforms last year and issued more Shariah- compliant bonds, helping support an industry poised to expand worldwide at almost three times the pace of financial assets.

“Indonesia is only now undergoing wider financial reforms, of which Islamic finance is a part, to tap international capital markets especially from Gulf investors,” Abas A. Jalil, chief executive officer at Amanah Capital Group Ltd., a Kuala Lumpur- based consulting company, said in a Dec. 6 interview. “Bank Indonesia could only recently begin organizing laws for the non- Islamic side, let alone the Islamic, as they were hindered by the government and then the Asian financial crisis.”

Record Sukuk

Southeast Asia’s largest economy sold $1 billion of global Islamic bonds in November, with bids exceeding supply by five times. Buyers in the Middle East accounted for 30 percent of the order book, compared with 23 percent in Asia, 20 percent in Indonesia, 12 percent in the U.S. and 15 percent in Europe, according to Loto Srianita Ginting, director of government securities at the Finance Ministry’s debt-management office.

The government has issued Shariah-compliant sovereign bonds, known as sukuk, at mostly regular, two-week intervals, setting a record of 57.1 trillion rupiah last year compared with 34 trillion rupiah in 2011.

It may offer about 53 trillion rupiah this year, Dahlan Siamat, Islamic financing director at the debt-management office, said by text message today.

Indonesia ranks fifth in the amount of outstanding Islamic bonds, after Malaysia, Saudi Arabia, United Arab Emirates and Qatar, accounting for 4.4 percent of the world’s total, according to a Malaysian central bankreport. Malaysia represents 62 percent of the global sukuk outstanding. As of the end of the first half of 2012, it had $129.4 billion outstanding compared with $9.3 billion for Indonesia.

Interest Ban

The bonds pay returns on assets to comply with Islam’s ban on interest. The government may use public property to back the sukuk by transferring its ownership to creditors until maturity while leasing the asset to make coupon payments.

Indonesia allows 16 Islamic-banking products, compared with 59 in Malaysia, according to the countries’ central banks. Regulators in Indonesia are assessing a 17th, a Shariah- compliant instrument for banks to hedge against currency swings, said Edy Setiadi, executive director of Islamic banking at Bank Indonesia. A similar instrument has been offered since 2006 by lenders in Malaysia, including Standard Chartered, HSBC and CIMB Islamic Bank Bhd.

The global Islamic finance industry is expanding at an average annual rate of 15 percent, according to Malaysia’s Securities Commission. That’s almost three times as fast as the 5.5 percent increase for all financial assets in 2010 cited in a 2011 McKinsey Global Institute report. It will more than double to $2.8 trillion in 2015, from $1.1 trillion in 2011, the Islamic Financial Services Board in Kuala Lumpur estimates.

Realizing Potential

“We are all very anxious to see Indonesia come out and realize its potential,” Rauf Rashid, Malaysia managing partner at Ernst & Young LLP, said in an interview at the Global Islamic Finance Forum in Kuala Lumpur in September. “The market is simply massive, if only the powers that be can align with the business community to tap this opportunity in Islamic finance.”

Islamic banking in Indonesia trails Malaysia by almost a decade. The country’s debut Shariah-compliant lender, Bank Muamalat, opened in 1992. Bank Islam Malaysia Bhd., Malaysia’s first, started in 1983.

One reason for the lag was that Indonesia’s central bank was under the authority of the government from 1968 to 1999, during most of President Suharto’s rule. The country also was hit harder during the Asian financial crisis that began in 1997. Indonesia spent about 57 percent of the value of its gross domestic product to restructure its banks from 1997 to 2001, according to a report by the International Monetary Fund. That compares with the 16 percent of GDP that Malaysia spent to revive its financial system from 1997 through 1999.

Investment Limit

Bank Indonesia didn’t announce rules regulating foreign ownership of local lenders until July, setting a limit of 40 percent for both Islamic and non-Islamic lenders.

Malaysia’s central bank, Bank Negara Malaysia, which has been independent since its establishment in 1959, revised its law seven years ago to allow foreigners to hold a larger portion of Shariah-compliant banks than of conventional lenders to spur Islamic banking. The authority increased the limit to 49 percent in 2005 from 30 percent, and to 70 percent in 2009.

HSBC, the world’s largest underwriter of sukuk for both government and corporate issuances, had a 24 percent global market share totaling $11.1 billion in 2012, according to data compiled by Bloomberg. Three percent of that was in Indonesia. Cheaper borrowing costs spurred Islamic bond offerings to an all-time high of $46.3 billion last year, exceeding the previous record of $36.7 billion for 2011, the data show. Malaysia’s Cagamas Bhd. brought sales so far this year to $41 million.

Breaking Records

Indonesian companies probably will break corporate sukuk records this year after issuing less than 1 percent of Malaysia’s 95 billion ringgit ($31.5 billion) in 2012, according to estimates by PT Danareksa Sekuritas and PT Indo Premier Securities, Indonesia’s top two arrangers.

HSBC, which declined to make an executive available for an interview, said in an Oct. 4 statement that it’s scaling back its global Islamic finance business in less-profitable markets, including the U.K. and Singapore, to concentrate on Malaysia and Saudi Arabia while maintaining a presence in Indonesia.

Islamic lenders in Indonesia including Bank Muamalat, the PT BNI Syariah unit of PT Bank Negara Indonesia and CIMB Islamic, part of Malaysia’s second-largest banking group, have said they want to provide fixed-rate deposits to consumers so they can compete directly with non-Islamic banks. Such accounts have been available in Malaysia since 2007.

Shariah-compliant banks can offer fixed rates on deposits using a contract to sell and repurchase assets with a markup and deferred payments, called murabaha. A bank may offer to sell and repurchase a property with 10 percent markup paid over two years, resulting in stable payments of 5 percent each year.

Sending Thugs

The number of Indonesians using Islamic financial products increased 37 percent over the past year through Nov. 30 compared with a 32 percent rise in the previous period and 19 percent the year before, central bank show. That’s still only 13.8 million people in a country of 208 million Muslims.

Hanifah, the shop owner, is one of them. She said she despaired of making monthly interest payments on a regular bank loan after her husband’s death in an accident in 2004. It took her five years with the help of relatives to repay a debt of 32 million rupiah at a rate of 18 percent without any income.

This time it’s different.

“When I didn’t turn a profit one month, the bank didn’t send thugs to demand payment,” she said of the Bank Muamalat loan for her shop. “It sent my account manager instead to help me rearrange the furniture and showcase the products better, because my profit is theirs, too.”

Hanifah, who wears a headscarf, declined to say how much she borrowed or what she clears each month.

Sharing Risk

The type of loan she took out from Bank Muamalat, whose Shariah-compliant lending rose 93 percent in the first nine months of last year, gets around the ban on interest by sharing both the borrower’s earnings and the lender’s risks. If there’s nothing left after expenses, borrowers owe nothing that month.

Lenders pay an agreed proportion of their profits as returns on customer deposits, causing rates to fluctuate depending on a bank’s profit. When the bank is more profitable, clients earn bigger returns on their savings.

Shariah-compliant banks can guard against currency swings by signing two sell-and-repurchase agreements, similar to the method used for fixed-rate deposits, in different currencies using agreed-upon exchange rates.

Indonesia will require non-Islamic banks operating Islamic- banking windows in their branches to set up independent units by 2015 to prompt them to inject more capital into the business, according to Setiadi of the central bank.

Shariah Council

Since July, Shariah-compliant banks in Indonesia have been allowed to lend to each other at fixed rates to manage excess cash, paving the way for savings accounts with a stable return similar to what non-Islamic banks pay for deposits.

Offering the same product to consumers may lead them to believe there’s no fundamental difference between Islamic and non-Islamic instruments, said Adiwarman Azwar Karim, a member of the National Shariah Board, part of the state-funded Indonesian Ulema Council. The council, founded in 1975, has the legal authority to issue decrees about whether products and actions comply with Shariah, which Bank Indonesia and the regulatory body at the Finance Ministry follow when drafting regulations.

HSBC Unit

HSBC’s Islamic banking unit, HSBC Amanah, has been offering Shariah-compliant retail and corporate products in Indonesia since 2003, nine years after starting in Malaysia. The bank earned $175 million in profits in Indonesia in the first half of last year and $288 million in Malaysia. The company doesn’t break out numbers for Islamic banking, Gareth Hewett, a spokesman for the bank in Hong Kong, said in an e-mailed response to questions.

Standard Chartered, which runs its wholesale Islamic business from Dubai and consumer Islamic banking from Kuala Lumpur, has been offering products for Muslims in Malaysia since 1993, according to Saifi. It started an Islamic banking subsidiary in Malaysia in 2008 calledStandard Chartered Saadiq Bhd. The lender in 2004 also purchased a stake in PT Bank Permata (BNLI), which it increased to 45 percent in 2006.

“It is very important that we continue to build a strong Islamic proposition that our customers have a choice of moving to Shariah-compliant products within the bank, if they choose to do so,” Saifi wrote in an e-mailed response to questions about Standard Chartered’s business in Indonesia. “We expect to see a much faster development of the product set in the country.”

Double Taxation

Nations including Pakistan, South Africa and Kazakhstan are seeking to develop Islamic finance by revising rules and offering incentives. Malaysia and Ireland have issued treaties to remove double taxation on the transfer of assets used in Islamic bonds and transactions.

The notes pay returns on assets to comply with the religion’s ban on interest. When an investor purchases sukuk, the asset is legally transferred to the bondholder and then returned to the issuer at maturity, which results in some structures incurring double sales tax.

Indonesia’s tax framework for such products is incomplete, leaving potential sukuk issuers uncertain whether they will be required to pay taxes on the sale and repurchase of underlying assets, said Badlisyah Abdul Ghani, head of Islamic banking at Kuala Lumpur-based CIMB Group Holdings Bhd. (CIMB), the world’s second- largest sukuk underwriter.

Catching Malaysia

Indonesia’s capital market regulatory agency has ensured that no corporate sukuk issuance incurred double transaction taxes, said Etty Retno Wulandari, a director. To dismiss the misperception, Bank Indonesia has asked the taxation department since 2009 to send out a letter stating that Islamic products will receive tax exemptions as needed to place them on equal footing with non-Islamic bonds, Setiadi said.

Malaysia’s Securities Commission established a Shariah advisory council in 1996 to vet sukuk offerings before releasing a comprehensive guideline on how companies can issue Islamic bonds in 2004. Indonesia has yet to publish broad guidelines on offering sukuk. The separate pronouncements to allow the government and companies to sell such bonds are sufficient, Wulandari at the regulatory agency said.

“Indonesia will easily leave Malaysia in its dust once it completes its regulatory framework and tax neutrality laws,” said Badlisyah of CIMB. “Its market share will catch up to Malaysia overnight.”

image copyright: Ed Wray/Bloomberg

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U.S. Money Funds, Harmonizing Wakalah Rules: Compliance

BLOOMBERG.COM---The U.S. Securities and Exchange Commission will seek comment on a proposal that would impose a floating-share value on the riskiest money-market mutual funds or allow them to suspend redemptions in times of stress.

The SEC’s five commissioners voted unanimously at a meeting in Washington yesterday to apply the changes only to funds that invest in corporate debt or municipal securities and cater to institutional investors, which were abandoned during the 2008 financial crisis. Funds that serve retail clients or focus their holdings on U.S. government securities would be exempt.

The commissioners’ vote, which releases the proposal for 90 days of public comment, will kick off a months-long burst of lobbying from investors, fund companies and other stakeholders before SEC commissioners consider a final version.

Under the SEC’s proposal, prime funds would have a choice of adopting the floating-share value, putting gates on redemptions or doing both. A money fund would be able to suspend redemptions for as long as 30 days if its weekly liquid assets fell below 15 percent of total assets, or half of the required level. Investors would be charged a 2 percent fee if they still wanted to withdraw funds.

Retail funds, which the proposal defines as those limiting redemptions to $1 million per day, would be exempt from the rule to float their share value. Institutional funds that invest in corporate debt hold 37 percent of the assets in the $2.9 trillion money-fund industry, according to the SEC.

The proposal makes clear that investors in a floating-share fund probably would owe taxes once a year on any capital gains, according to SEC officials.

Compliance Policy

Indian Cabinet Approves Real-Estate Bill to Protect Home Buyers

Indian Prime Minister Manmohan Singh’s Cabinet approved a bill seeking to regulate the residential housing industry to protect home buyers and encourage access to capital.

The Cabinet endorsed the Real Estate (Regulation and Development) Bill June 4, Housing Minister Ajay Maken said in a briefing in New Delhi yesterday. The plan needs the approval of lawmakers and will be presented at the next session of parliament, he said.

India’s housing sector is largely unregulated and opaque and consumers are often unable to access sufficient information or hold builders accountable, according to the government. Regulations will enable the industry to access capital markets for growth, the administration said.

The bill proposes “stringent norms” against developers in case of non-compliance, according to Harvesp Mehta, director at Motilal Oswal Private Equity Advisors Pvt. Ltd., which manages a property fund.

The planned legislation is a step in the right direction, Mehta said.

Money-Market Boost as Rules Allow Global Shariah-Compliant Deals

Global standards for agency contracts will help the fragmented $1.6 trillion Islamic financeindustry develop international money markets, according to Asian Finance Bank Bhd. and CIMB Group Holdings Bhd.

The International Islamic Financial Market, a Bahrain-based standards-setting body, issued the guidelines to broaden the range of tools for Shariah lenders to manage excess funds, Chief Executive Officer Ijlal Ahmed Alvi told a conference in Singapore on June 3. The rules govern wakalah contracts, where the bank acts as an agent for a client looking to invest funds and profits are shared to comply with the Koran’s interest ban.

Harmonization of standards will avoid different schools of thought blocking the expansion of banks across jurisdictions, said Mohamad Akram Laldin, a Shariah scholar with Malaysia’s central bank. Documentation will be positive for markets that lack their own regulations, according to Badlisyah Abdul Ghani, chief executive officer of CIMB Islamic Bank Bhd., who said 15 percent annual growth in Islamic financial assets is too slow.

International Islamic Liquidity Management Corp., set up in 2010 by 12 central banks and two multinational institutions to provide instruments for banks to manage funds, has yet to issue its first short-term bills. Standard & Poor’s said in an April 5 statement that IILM had appointed Standard Chartered Plc as a primary dealer for $500 million in planned issuance.

IIFM’s unrestricted wakalah would be a reference point for lenders in managing treasury operations, defining roles and obligations of principals and agents for matters including due diligence, profit warnings, insolvency and contract termination, according to a paper handed out at the presentation during the conference. Such an agreement gives the holder a broader mandate to manage an investor’s funds than a restricted wakalah contract.

Big Companies’ Uninsured Deposits May Face Losses in Irish Plan

Large companies with uninsured bank deposits may face losses ahead of smaller businesses and individual account holders as part of draft European Union plans for handling bank failures.

Ireland, which holds the rotating presidency of the EU, proposed the measure in a bid to find common ground between nations over rules for creditor writedowns at crisis-hit lenders, according to a document obtained by Bloomberg News. Finance ministers will seek to reach a deal on the measures later this month.

Under the draft Irish plans, which would allow countries to grant some exemptions, uninsured bank deposits belonging to individuals as well as “micro, small and medium-sized enterprises” would be repaid ahead of “ordinary unsecured, non-preferred creditors,” according to the document.

EU nations are racing to meet a June deadline to agree on the plans, which leaders have said will be a first step toward more ambitious moves to centralize bank interventions in the 17-nation euro area. Finance ministers clashed over the draft law last month.

“It is very important that we reach a deal on this important piece of legislation very soon,”Chantal Hughes, a spokeswoman for Michel Barnier, the EU’s financial services chief, said in an interview. She declined to comment on the details of the Irish proposals.

Compliance Action

India Acts Against Founders for Missing Holdings Deadline

Adani Ports & Special Economic Zone Ltd. (ADSEZ) and Essar Ports Ltd. (ESRS) are among 105 Indian companies whose founders’ voting rights have been curtailed for not meeting a minimum public shareholding rule.

Owners voting rights of non-compliant companies have been capped at 75 percent and they won’t receive dividend on shares exceeding the limit, the regulator said in a statement late in the day on June 4. Founders were required to cut their holdings to 75 percent to ensure a public float of least 25 percent by June 3.

The rush to meet the ownership requirement announced in June 2010 led to share sales of at least $1 billion last month, data compiled by Bloomberg show. Owners and directors of the non-compliant firms have been barred from holding a new position as a director in any publicly traded company until they comply.

A spokesmen for Adani Ports declined to comment, while a spokesman for Essar Ports didn’t immediately respond to multiple attempts to obtain comment.

Adani Ports offered to sell 66.6 million shares at 148 rupees to 158 rupees apiece through an institutional placement on June 4, according to an exchange filing on June 3.

Courts

Ex-SAC Manager Martoma Faces Nov. 4 Insider-Trading Trial

Former SAC Capital Advisors LP portfolio manager Mathew Martoma will go on trial Nov. 4 on charges he helped the hedge fund founded by Steven A. Cohen make $276 million using illegal tips about an Alzheimer’s drug, a judge said.

U.S. District Judge Paul Gardephe in Manhattan set the jury trial date yesterday at a hearing, while leaving open the possibility that the trial could take place at a later date.

A lawyer for Martoma asked that the trial start in February.

Martoma’s lawyer Richard Strassberg said he has been told the government plans to file a superseding, or revised, indictment. Such filings often include additional charges or defendants.

Martoma, who worked as a fund manager for Cohen’s CR Intrinsic Investors unit, was charged in November with insider-trading. The U.S. says he helped SAC reap illicit profits by trading in shares of Elan Corp. (ELN) and Wyeth LLC from tips he received from a physician who was in charge of monitoring tests on a clinical drug trial of bapineuzumab, or bapi, a drug to treatAlzheimer’s disease.

Cohen has denied any wrongdoing. Martoma has pleaded not guilty. At least nine former or current employees of Cohen’s $15 billion hedge fund have been linked by the U.S. to insider trading.

The case is U.S. v. Martoma, 12-cr-00973, U.S. District Court, Southern District of New York (Manhattan).

Interviews/Speeches

Abe Pledges Autumn Campaign to Loosen Japan Business Rules

Japanese Prime Minister Shinzo Abe pledged a legislative campaign to loosen rules on businesses ranging from non-prescription drugs to construction. Stocks (TPX) slid as he said the effort won’t begin for months.

In a Tokyo speech previewing his government’s economic growth strategy, the “third arrow” of Abenomics, Abe said his revival plan will recoup 50 trillion yen ($501 billion) in national income that was lost during two decades of economic malaise. He said policy makers will remove barriers to private enterprise and legislation will be enacted as soon as autumn.

Stocks initially rose during the speech, before turning lower. The timing of the announcement means he’s putting off taking on vested interests until after next month’s election for the upper house of parliament, and leaves the onus on the central bank to boost growth for now.

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New Developments in Islamic Financial Services

OMANOBSERVER.COM--A NEW index for Oman’s stock exchange is expected to provide a boost to the Sultanate’s nascent Islamic financial services sector and lead the way for additional sharia-compliant products. In early June, the Muscat Securities Market (MSM) announced that it was close to launching a new index, one for listed companies that operate according to the principles of sharia, as set down by the Bahrain-based Accounting and Auditing Organisation for Islamic Financial Institutions.

To be known as the MSM Sharia Index, the benchmark will contain 31 listings. Industrial firms will be the best represented, with 18 companies, followed by 10 from the services sector and three from the financial industry. This is the inverse of the MSM30, the exchange’s primary index, which is heavily weighted towards banks. The low number of financial firm listings in the new index can, to some degree, be explained by Oman’s late entry into the sharia-compliant finance field, with authorisation for Islamic banking coming only in 2011.

One of the smaller Gulf exchanges, the MSM has a market capitalisation of around $30 billion (compared to a GDP of about $72 billion), with 165 companies trading on its boards. To ensure that the companies listed on the MSM Sharia Index continue to comply with Islamic business principles, quarterly reviews of their activities will be conducted, a process aimed at both maintaining standards and promoting confidence in the products being offered to investors.

The index is the latest development in Oman’s Islamic financial services market, which has been in existence since the His Majesty Sultan Qaboos issued an enabling Royal decree in May 2011. Since then, two new institutions — Bank Nizwa and Al Izz International Bank — have acquired banking licences, while established conventional lenders have opened Islamic windows. In 2012 both Nizwa and Al Izz floated initial public offerings (IPOs), in line with the central bank requirement that they list at least 40 per cent of their shares. The IPOs were strongly oversubscribed, suggesting an appetite for Islamic products on the MSM.

Sharia-compliant banks are expected to draw in new customers rather win market share from their conventional counterparts.

As Hamod bin Sangour bin Hashim al Zadjali, Executive President of the Central Bank of Oman (CBO), told OBG in 2012, “The CBO... believes that the advent of Islamic banking in Oman will complement existing conventional banking, augment financial inclusion and promote growth in the economy for years to come.” 

According to Pradeep Asrani, Managing Director of Investment Services firm Gulf Baader Capital Markets, Islamic banks will capture a market share of up to 5 per cent within two years, which in turn could promote further expansion into sharia-compliant investment funds and brokerages, as well as sukuks (Islamic bonds). 

More generally, the availability of Islamic banking and other financial services is expected to act as a spur to the market and to the economy as a whole. 

In 2012, Ahmed bin Saleh al Marhoon, the MSM’s director-general, told OBG that the introduction of Islamic banking would inject more liquidity into local capital markets as individuals seeking sharia-compliant investment options would no longer have to look abroad. The new MSM Sharia Index will provide one more reason for these investors to place their funds locally.

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Global Islamic Finance Industry Needs to Build Economies of Scale

ZAWYA-- MUSCAT-- Financial institutions and regulators around the world need to work together to address challenges that are limiting the geographic growth of Islamic finance, according to a key expert. David McLean, Chief Executive of the World Islamic Banking Conference: Asia Summit, which opens in Singapore next week, said that although Islamic finance has come a long way, achieving significant growth over the last decade, the overall size of Islamic assets is still less than 1 per cent of the global financial system and the industry has still to build significant economies of scale.

"Being comparatively young, Islamic finance currently offers fewer product choices for consumers, while isolated pools of Islamic liquidity in each market restrict opportunities for more efficient allocation of capital across international jurisdictions," McLean ahead of the June 3 opening of the 4th Annual World Islamic Banking Conference: Asia Summit.

"As Islamic finance embarks on its next phase of growth, the industry must overcome these challenges and build scale, reach critical mass and expand its geographic footprint -- and this will require financial institutions, regulators, and international standard setting agencies to work more closely together," McLean stated.

More than 480 key Islamic finance leaders and senior decision-makers representing the major regional and international institutions, regulatory bodies and government agencies, are attending WIBC Asia 2013. The high-profile gathering will create an ideal platform to facilitate discussions on achieving further growth and international connectivity in the Islamic banking and finance industry in Asia.

According to Abdul Hamidy bin Abdul Hafiz, CEO of Kuwait Finance House (Malaysia), "The Islamic finance industry has shown tremendous growth in terms of business volumes, product innovation and geographical spread -- as well as achieving significant improvements in its legal and regulatory frameworks. The industry is now entertaining customers across wider segments and economic sectors and is moving well beyond its early niche status.

However, the Islamic financial system is still very small compared to the existing conventional economic system. With the lessons learnt from the recent global financial crisis, we are now well aware of the inherent dangers in unproductive capital. What is needed is a more efficient and effective mobilisation of investible surplus that promotes economic prosperity by financing real economic activities. This perfectly fits with the objectives of Islamic finance and by promoting and strengthening the cross-border connectivity in Islamic finance, it would allow capital allocation to the most efficient investment portfolios."

He went on to say that, "The role that the annual World Islamic Banking Conference: Asia Summit plays in bringing together industry leaders from key Islamic financial centres for dialogues on improving the global connectivity of Islamic finance is commendable and we are delighted to be once again supporting this key industry gathering." According to Sulaiman Alireza, Executive Director, Head of Direct Investments, Asiya Investments Hong Kong Limited, "There has been a significant expansion of both intra-Asia as well as cross-border trade flows between Asia and the Middle East.

Annual intra-Asia trade is expected to quadruple from current levels of almost $5 trillion to $20 trillion by 2020. Similarly, trade between the GCC and emerging Asia is growing at a rate of 25 per cent per year." He said the emerging Asian economies, excluding Japan, account for approximately 20 per cent of the world GDP. "Middle East investors are on the lookout for greater diversification, both in terms of geographical allocation and asset classes, beyond the traditional investments in the US and Europe."

© Oman Daily Observer 2013

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Egypt's First Sukuk Law: A Legal Overview

ZAWYA.COM--The passing of Egypt's first sukuk law in May 2013 marks a major milestone in the development of the Islamic finance industry at the national and regional levels. However, the actual value that may result from passing the sukuk law will depend on the adequacy of the regulatory framework in which it will be implemented. The first piece of this important framework is the Executive Regulations of the law, which the government plans to issue in the next few weeks.

The law's drafting and passing were met with several political hurdles. It has been argued by the opposition's figures that the mere fact of passing of such law by a Shura Council, dominated by Islamic parties, particularly the Freedom and Justice Party, is a testament to the Islamic parties' reliance on funding sources from the GCC countries, where Shariah-compliant financial instruments are more popular and developed than they are in Egypt.

Such reliance is seen by part of the opposition as opening the door to political influence from the Gulf. It could be argued that the reason for such unpopularity of Shariah-compliant instruments in Egypt is the suppression of Shariah-compliant finance under the regime of Hosni Mubarak, which contributed in part to the creation of a negative attitude towards Islamic finance.

Some of the critical aspects of the new Egyptian sukuk law are: a) the law's drafting process; b) sukuk issuance under the law and its limits; and c) key provisions regarding Shariah supervision over sukuk issuance and settlement of sukuk disputes.

Drafting the law

The initial draft of the law in March 2013 encountered significant resistance from the Salafist Al-Nour party, which demanded the law be approved by Al Azhar, which is the supreme Islamic authority in Egypt. Al-Nour's objections largely centered on nationalist fears that the law would enable foreigners to own Egyptian public property through issuance of sukuk granting its owners portion of ownership of public assets.

Potentially setting a precedent for review of future legislation by religious entities, President Morsi was forced to refer the law back to Al-Azhar for review. The law was ultimately passed after incorporating Al-Azhar's amendments, and now awaits the issuance of its executive regulation, which is due to be completed in the coming months.

In addition to Al-Azhar's comments, other parties contributed to the drafting of the law, such as representatives and experts of the Islamic finance industry, including the Egyptian Islamic Finance Association (EIFA).

EIFA's efforts and discussions with the Shura Council resulted in the broadening of the scope of law to include both corporate and sovereign sukuk rather than exclusively sovereign. The law allows for both asset-based and asset-backed structures despite EIFA's recommendation to restrict asset-backed sukuk, which has been subject to criticism by various Shariah boards and organizations.

In addition, asset-backed sukuk structures could provide a different cost of financing to issuing parties, as the profit rate would be based on the underlying credit quality as well as the expected performance of the sukuk assets.

Geographic scope

Although sukuk issuance can occur within Egypt and internationally through offshore special purpose vehicles (SPVs), the law stipulates that sukuk assets be located within Egypt, which is likely to limit the size and liquidity of the country's sukuk.

However, given the probable need for financing within the Egyptian market, these limits are not likely to be a problem within the next decade. Indeed, the law is expressly written to discourage capital outflows from Egypt and encourage capital inflows.

Shariah supervision and dispute settlement

A central Shariah board established at the cabinet level shall oversee compliance. Corporate issuers will have their own Shariah boards, but the transaction will also be subject to the central Shariah board's approval. The prime minister will appoint the board's members based on nominations from the finance ministry. To be considered for the central board membership, a candidate must have a Ph.D. in in Shariah and to have participated in at least three sukuk issues.

Although the Egyptian Economic Courts have a general jurisdiction over all sukuk disputes, the law allows the transaction parties to agree on arbitration as a dispute resolution mechanism. The law also leaves the door open to interpretations allowing settlement by foreign arbitration tribunals for offshore sukuk.

Conclusion

The new sukuk law constitutes a bold step towards the development of a Shariah-compliant finance industry in Egypt, and may prove to be a viable resource that could be used to address the current gap in the public funding needs.

Dr. Walid Hegazy has more than 15 years of legal experience with a focus on Islamic banking and finance, project financing, corporate restructuring and corporate governance. Before launching Hegazy & Associates, Dr. Hegazy was heading the Islamic Finance Practice Group at the international law firm of Freshfields Bruckhaus Deringer.

© Zawya 2013

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Jordan's Appetite for Islamic Banking

ZAWYA.COM---Sami Al Afghani, CEO of Jordan Dubai Islamic Bank talks to Banker Middle East about the growing interest towards Islamic banking products and practices within Jordan's banking and finance sector

How do you see the growth in Islamic banking in Jordan?

Islamic banking is an increasingly growing sector in Jordan and is in a position to fulfill all the financial needs and requirements of customers in all categories. There is a growing trend in Jordan whereby a large number of customers are shifting their business to Islamic banks. This trend is made rather clear from the increasing market share for Islamic banks, due mainly to a host of new competitive Islamic products.

At Jordan Dubai Islamic Bank , we are placing all our focus on the local market for the time being to ensure our position in the market as the leading providers of Islamic banking products in Jordan.

There is room for Islamic banking to grow in Jordan and the opportunity for it is rather great due to an ever increasing Muslim community, interested only in dealing with Islamic financial products especially where there are clear guidelines and structures. Islamic banking is not only a matter of providing the service but more importantly, it is about the quality of this service which is highly affected by Shari'ah Islamic laws.

I believe that the entrance of new players into the Islamic banking market is beneficial for all, as it will help in allowing for more regulations for this sector and will highlight Shari'ah- compliant products making them more familiar to the public, as new comers will enhance the experience and culture in this sector in the same way that Jordan Dubai Islamic Bank has.

What is your view of the Sukuk market growth in Jordan, regionally and globally?

The Sukuk market is growing rapidly both regionally and globally. This growth rate reflects the economic development of the Middle East region, the financial appetite of countries such as those in the GCC, as well as the growing appetite for Shari'ah-compliant instruments.

Last year in October 2012, the Sukuk law was approved in Jordan. Now there is a committee consisting of the Central Bank of Jordan, Jordan Securities Commission, Ministry of Finance and Dar Al Efta', to place detailed instructions and mechanisms to issue sovereign Islamic Sukuk, which will be the benchmark for the private sector to issue Sukuk, and we expect this to be finalised within the second half of this year. Sukuk issuance will help Jordanian Islamic banks invest their liquidity surplus, which means managing the funds more efficiently which will in turn be reflected in depositors and shareholders' profitability.

The increased conservatism of the Arab banking sector in its lending policies resulted in a noticeable surplus of funds amongst some of them. How can these banks invest their surplus and what is the impact of its accumulation on the Bank's profitability?

I think that the tightening in Arab banking lending/financing policies is a normal reaction to the various financial challenges and its negative impact on the world's economy. This negative impact and slowdown is affecting every sector and therefore banks have to be more cautious and do have to analyse every aspect, which is already in the core structure of banking business. However, during financial slowdowns similar to the one we are going through, banks increase their terms and level of analysis in order to protect their depositors and shareholders.

How has the Bank performed at end of 2012? And what are your plans for the future?

Jordan Dubai Islamic Bank started operations in 2010. By the end of its third year of operating as an Islamic Bank, working under the Central Bank of Jordan's regulations, the Bank's total assets exceeded $670 million and its shareholder's equity exceeded $179 million. Our results for fiscal year 2012 were much better than original expectations as we have adopted flexible plans taking into consideration regional developments and their impact on the Jordanian economy. Despite the difficulties that have faced Jordan Dubai Islamic Bank in 2012, we were successful in building a high-quality financing portfolio that generated operating profit and at the same time we have been able to distribute competitive profit rates to 

our depositors.

Mr. Sami Al Afghani, CEO of Jordan Dubai Islamic Bank since its establishment in January 2010 has 26 years of experience in banking, holding different positions in several banks across the region such as the Abu Dhabi Islamic Bank, Arab National Bank and Arab Bank.

© Banker Middle East 2013

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National Bonds Records AED100m Sales

ZAWYA.COM--Surge in sales achieved in just two weeks after new structure

National Bonds Corporation , a Shariah-compliant savings and investment programme, today announced bond sales of Dh100 million in the first two weeks following the launch of the new rewards structure.

Rolled out on May 1, 2013, the new rewards structure has led to an upsurge in the number of bondholders.

In the two weeks following the announcement, and with the introduction of prizes specific to female and minor bondholders, the data indicated a 160 per cent rise of female bondholders, while minor bondholders witnessed an equally noteworthy increase of 117 per cent within the same period.

Commenting on this growth, Mohammad Qasim Al Ali, CEO of National Bonds Corporation , said: "The figures reflect the achievement of the new structure in attracting a greater number of savers from our community. It also confirms the success of our newly applied approach to encourage the general public to regularly save in their means of realizing a promising future. We are confident about witnessing further growth in the number of regular savers and investors from within and outside the UAE in the near future."

Al Ali added: "In addition to doubling the rewards, the restructuring was designed with the clear objective of stimulating parents to endorse and instill the habit of regular saving to ensure that their children are securely covered for their education cost until college graduation. Also, through the newly introduced structure, we sought to increase awareness on the importance of our Mudaraba Sukuk fund among both individuals and institutions. This will undoubtedly contribute to achieving the leadership's vision of consolidating Dubai's position as the global hub of Islamic finance."

In mid-April, National Bonds Corporation announced the restructuring of its rewards program to give away attractive prizes to bondholders on a daily and weekly basis. The new structure continues the draw for the immensely popular one million dirham grand prize in the first week of each month.

It also offers two women bondholders the chance of winning a gold bar in the second week each worth Dh50,000. The third week of every month gives away two luxurious BMW cars. In addition, the new structure provides tuitions worth Dh25,000 each to two lucky minor bondholders.

Unique to the region, the new rewards structure additionally offers one cash award every minute of every day. Of the corresponding 1,440 daily cash awards valued at Dh50 each, 600 prizes are reserved for bondholders in specific sub-categories: 200 for female bondholders, 200 for minor bondholders and 200 for those bondholders who have a direct debit arrangement with their respective banks or through payroll deduction by their employers via the Employee Savings Scheme.

National Bonds , which is licensed and regulated by the UAE Central Bank, provides UAE nationals, as well as residents and non-residents with a credible and safe savings opportunity. Minors can also own National Bonds provided the bonds are purchased by the parent/guardian. Each bond costs Dh10, with a minimum purchase of Dh100.

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OAB gearing up to unveil Islamic banking products

ZAWYA.COM--Muscat: Al Yusr, Oman Arab Bank's (OAB) Islamic banking window, held its inaugural Sharia Supervisory Board meeting, wherein the board approved the products and policy manuals developed by Al Yusr to launch its Islamic banking services. The meeting was presided over by Dr Essam Al Enezi, chairman of the Al Yusr Sharia Supervisory Board. Dr Ahmad Ayyadi and Dr Khalid Al Siyabi, eminent members of the Sharia Supervisory Board and other the senior management of Al Yusr were present. The key products Al Yusr will offer upon its launch include Sharia-compliant auto and home finance, as well as a complete set of deposit products including current account, savings account and fixed deposit for the retail banking sector. Al Yusr has also affirmed its commitment to corporate and small and medium enterprises (SME) segments by developing a Sharia-compliant short-term working capital and term finance product, coupled with deposit product suites comprising current account and fixed deposit options, which the Sharia Supervisory Board has also approved. Extensive research Abdul Kader Askalan, chief executive of Oman Arab Bank, explained that the inaugural Sharia Supervisory Board meeting and its approval of these products follows months of extensive research and development Oman Arab Bank has undertaken to develop the product suite for Al Yusr. "While Islamic banking has been available in the market since the beginning of this year, we have utilised this time to deliberately study the market and the Islamic banking requirements of the Omani people," he said. "As a result, we have designed Al Yusr to meet the needs of Oman in a way that is both simple and easy to use; we will enter the market with products crafted specifically for Oman." "Oman Arab Bank is respected for its longstanding legacy and highly experienced management. We are working hard to maintain the public's trust and confidence by creating an Islamic Banking window that provides easy and simple services and products to meet our customers' unique needs," he added, Al Yusr head of Islamic banking, Azmat Rafique, explained Al Yusr's commitment to provide value added and simple financial solutions. "We share the same passion and commitment that Oman Arab Bank has for its retail, SME and corporate customers. Our endeavour is always to serve our clients with the best quality and comprehensive range of products. "This is an on-going process and we will keep adding innovative and simple solutions to establish Al Yusr as a trusted Islamic banking window."

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