Saudi budget implies growing role for Islamic finance

At first glance there is no direct mention of the role of Islamic banking and finance in the Kingdom’s economy in the 2012 Saudi national budget announced last week in Riyadh.

But reading between the lines and judging by some of the initiatives launched by various agencies, banks and corporates in the Kingdom leading up to the budget announcement, it is clear that the Islamic finance industry is expected to contribute its fair share in crucial areas such as the financing of small-and-medium-sized enterprises (SMEs) primarily to generate employment especially for the youth; the provision of mortgage or housing finance and housing development finance; funding infrastructure and projects including through PFI (Public Private Financing); and helping Saudi corporates to diversify sources of funding away from bank finance to raising finance through the capital markets, predominantly through sukuk origination, which is expected to go viral in 2012 and beyond.

The involvement of Islamic finance in the Saudi economy is very real and potentially substantial, but in terms of government announcements it is more through nuances as opposed to official financial policy and financial inclusion measures.

For instance, the General Authority of Civil Aviation (GACA) in Saudi Arabia according to its director general, Prince Fahd bin Abdullah, has “agreed with the Saudi Finance Ministry and the Saudi Arabian Monetary Agency (SAMA) to launch sukuk to fund the new $7.2 billion Jeddah Airport project. The $7.2 billion sukuk program will be self-financing instruments of the General Authority of Civil Aviation, but if there is any shortage in the funding, the Ministry of Finance will cover it to curtail any delays in the project.”

While this suggests that the issuance may carry Saudi government guarantees, with the Ministry of Finance being the issuer probably through a standalone special purpose vehicle (SPV) and the obligor, there was no reference to this in the 2012 national budget nor in any Ministry of Finance announcements. Nor was it mentioned in the 47th annual report of SAMA which was presented to Custodian of the Two Holy Mosques King Abdullah on Dec. 12 by the outgoing Gov. Muhammad Al-Jasser, who started his new promotion as minister of economy and planning on the next day on Dec. 13. The issuance in any case will be dependent on the restructuring of GACA into a stock-holding company with four separate constituent companies – one specializing in international airports, one in domestic airports, one in  air navigation, and one in technology transfer and information services.

Another sign of the growing importance of Islamic finance in Saudi corporate fund raising is the announcement last week by the Capital Market Authority (CMA) that “in continuance with its efforts to develop and diversify investment channels in the capital markets via offers of securities,” it has approved a request by Saudi Basic Industries Corp. (SABIC), the world’s largest petrochemicals exporter, to issue and offer sukuk with a value that does not exceed SR5 billion. This would be SABIC’s 4th sukuk issuance, easily the most proactive player in the oil and gas sector in the world to raise Shariah-compliant funds as part of a diversification of sources of funding strategy.

Several other Saudi issuers have reported interest in raising funds through sukuk including Saudi Electricity Company (SEC) and Saudi Aramco, the world’s largest oil producer and exporter.

The fact that Al-Jasser is now the economy minister may turn out to be a blessing in disguise because he can leverage his experience acquired in Islamic finance when he was the SAMA governor from 2009 to 2011. This, especially to promote greater relevance of the banking sector, both conventional and Islamic, to the real economy and the sector to contribute a greater share to GDP. Al-Jasser’s tenure at SAMA is relatively short and he did not even complete his full four-year term. On contrast, his predecessor, Hamad Al-Sayari, was governor for a staggering 26 years from 1983 to 2009. All eyes will be on the new SAMA governor, Fahad bin Abdullah Al-Mubarak, who assumed office on Dec. 13 for a four-year term.

The total 2012 budget amounts to SR1.392 trillion ($371.2 billion) of which total expenditure is projected at SR690 billion ($184 billion) and total revenues are projected at SR702 billion ($187.2 billion). This is based on an oil price of $74 per barrel. But in reality the actual budget expenditure and revenues can markedly differ especially for an economy such as Saudi Arabia’s because of its dependence on oil exports and thus also the volatility in the price of crude oil. This in turn can have an impact on the prices of other commodities especially if transport costs increase sharply because of higher oil prices.

Not surprisingly the budget is conservative in that it is based on a relatively low price of oil at $74 per barrel given that only a few days after it was announced the actual price of crude oil was hovering at the $100 per barrel. The budget has also been characterized by no lesser person than King Abdullah as one for economic growth and jobs. The government also wants to see the nonoil public and private sector contribute more to real GDP.

New development projects are allocated SR265 billion with education, transport and health infrastructure getting the bulk of the expenditure.

The Kingdom has also earmarked the construction of 500,000 new housing units at a cost of SR250 billion. This was not allocated in the 2012 budget. Instead SR250 billion of the 2011 budget surplus was deposited in a special account at SAMA to fund the program starting in 2012. This is where Islamic finance has a main chance. Already five Islamic mortgage (home finance) companies have been established in Saudi Arabia, including Saudi Home Loans Company; Deutsche Gulf Finance, Tamweel, Amlak and the proposed mortgage company by the Jeddah-based Islamic Corporation for the Development of the Private Sector (ICD), the private sector funding arm of the Islamic Development Bank (IDB) Group. The limit of housing loans extended by the Real Estate Development Fund too was increased from SR300,000 to SR500,000 which will hopefully provide more houses for citizens and constrain the inflationary pressures stemming from the increase in house rents.

“I do not think the SAMA will give any more licenses in the Islamic mortgage finance market space. We will focus on the Saudi market. The housing sector is the big mover in the Kingdom. The government has announced that it will be spending SR250 billion on this sector over the next 10 years to build 500,000 units. The Kingdom’s demography is also very young. The housing gap is 150,000 units a year. What would make the sector really flourish is the adoption of the Saudi mortgage law,” explained Khaled Al-Aboodi, CEO of ICD.

Al-Aboodi, however, warned that ICD has hitherto not incorporated the company because it is waiting for the mortgage law to be adopted. But the corporation’s board of directors recently took the decision to start the incorporation process of the mortgage finance company which will of course be Shariah-compliant. And which it is hoped will be finalized by the early part of 2012.

Another target group in the budget are SMEs especially funding them directly. In the past this was done through bank finance which would be extended financing to SMEs. “We are also using our Ijara companies to facilitate financing directly to the SMEs and through the creation of SME investment funds. We are establishing the first SME Investment Fund in Saudi Arabia which will be a SR1 billion Shariah-compliant SME fund, which will be the first of its kind. We will be financing companies that are not big enough to progress on their own. It will involve a lot of technical assistance in terms of business processes, financial reporting, ownership structures etc. The goal is once the companies are restructured and on a sound footing, ICD will exit the investment. We want to leave a sound company that would be able to attract future lines of financing from ICD or local banks, explained Al-Aboodi.

Even this fund will target the real estate and mortgage sector. “We are thinking of focusing on the small real estate developers who are building say 30 to 40 villas. They have a good business model but they are relaying on their own resources. It takes them a year to turnaround their projects. We want to support them, transform them and finance them as and when required. Real estate sector is important because it is also moving the other sectors such as the construction and the building materials industries. The demand for housing units is there. The annual gap for housing in Saudi Arabia is about 150,000 units,” he added.

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Noor Islamic Bank Social Media

Islamic banking and finance to continue expanding in 2012

KUALA LUMPUR: Despite the global financial crisis, Islamic banking and finance is expected to continue expanding next year, with Malaysia-based players ready to lead the pack regionally and internationally.

The flaws in conventional finance have created great interest in the Islamic financial model, and this provides the basis for the industry to sustain a period of strong growth for the rest of this decade.

Benchmark a major step for Islamic finance

Last month, the world’s first Islamic interbank benchmark rate (IIBR) was launched. It was the result of a collaborative approach taken by many Islamic financial institutions, industry associations and Sharia scholars over the course of 24 months to address a decades-old industry challenge: how to decouple Islamic finance from a conventional western pricing benchmark (Libor) when an “Islamic” alternative was not available. The objective was to support and preserve Islamic finance authenticity.

The IIBR is an interbank benchmark that offers a reliable and realistic standard to better measure the cost of funding for Islamic financial institutions. As contributed pricing for Sharia-compliant funding, it represents the DNA of an Islamic banking industry that is today focused on commercial banking over investment banking.

IIBR brought together more than 20 Islamic finance institutions to create a proprietary Islamic pricing benchmark. It is a major indication to the world that Islamic finance has come of age and can be seen as a sustainable and rapidly developing feature of global financial markets. The benchmark is designed to be used to price a number of Islamic instruments including common overnight to short-term treasury investment and financing instruments such as murabaha, wakala and mudaraba, retail financing instruments such as property and car finance, and sukuk and other Sharia-compliant fixed-income instruments. It can also be used for the pricing and benchmarking of corporate finance and investment assets.

We expect the benchmark to grow organically as industry use and acceptance increase. As the industry gets used to the idea of its own proprietary benchmark and its scope becomes more global, we expect to see banks use the rate to price their interbank liquidity placements. As that gains traction, banks will start to use it for their corporate and retail banking facilities. The rate has reached its full potential when we see investment banks providing syndicated Islamic financing (loans) and debt (sukuk) issuance using the rate.

Since the launch of IIBR, it has received much attention around the world for the positive step that it is.

Understandably though, the significance of IIBR and what it means for the Islamic finance industry, indeed the very position of Sharia-finance in Islam and the wider world, means that it provokes strong opinion and debate. And we must address the critics if we are to achieve the full potential of this initiative. After all, these commentators are important additional stakeholders.

All collaborations start with open minds and transparent dialogue, and so here I hope to address some of the key points raised.

What is the difference between IIBR and Libor – the London interbank offered rate? Put simply, IIBR measures expected profit while conventional benchmarks such as Libor measure interest rates.

The IIBR question for contributors explicitly refers to the cost of raising Sharia-compliant funding and is therefore based on returns generated by Islamic assets.

How is IIBR preserving the authenticity of Islamic finance?

The IIBR rates represent the aggregate risk profile of Islamic financial institutions, by way of their assets on the balance sheet, and the geographies in which they operate. This is important for two reasons.

On an economic level, now more than ever, conditions in Europe or the US do not necessarily reflect the conditions in the Middle East funding market, although there will inevitably be a connection as global financial markets are always intertwined.

How is IIBR representative and reflective of global Islamic finance treasury funding costs?

This is only a beginning. At present, we have a strong base in GCC countries, we have three major Malaysian banks and are in conversations with others, and we have started conversations with banks in Turkey, Pakistan and other jurisdictions.

How will IIBR address cross-border funding costs?

The precondition for cross-border funding is establishing local rates, and we are starting a dialogue with more countries with established Islamic banking industries. The more important point is that a transparent process or methodology is in place for price contributions, and its integrity is overseen by our benchmark committee with rules that will punish banks, including expulsion, that violate the agreement they have signed.

Why are only murabaha contribution rates used?

Murabaha is the predominant form of funding for Islamic banks. However, the IIBR is instrument-neutral as decided by the Islamic benchmark committee, and in the future, when other instruments such as wakala or mudaraba become more widespread, a higher proportion of contributions could be derived from other rates.

Is IIBR only for Islamic financial institutions?

IIBR, like Islamic finance, is for all people and institutions for all times. As an accurate and transparent measure of market activity, it is suitable for a variety of uses in the modern financial markets of the world. With IIBR, conventional banks will now have more confidence in their counterparty Islamic banks because their rates will be benchmarked and publicly available.

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Noor Islamic Bank Social Media

Al Fakih named AAOIFI secretary general

MANAMA: The Accounting and Auditing Organisation for Islamic Financial Institutions (AAOIFI) has announced the appointment of Dr Khaled Al Fakih as its new secretary- general.

Chairman Shaikh Ebrahim bin Khalifa Al Khalifa said that the appointment had been made after carrying out the due process of selection.

“On behalf of AAOIFI and the board of trustees, I am pleased to welcome Dr Al Fakih to his new role and I am confident that he will steer the organisation to an even stronger position to discharge our responsibilities in developing and issuing standards for the international Islamic finance industry,” he added.

Dr Al Fakih has extensive experience in banking and finance and a unique combination of expertise in Islamic law, risk management, audit and technical finance.

He holds a PhD in Islamic Studies from the University of Saint Joseph, Beirut, Lebanon, and an MBA in banking and finance.

He is a Certified Financial Risk Manager, Certified Management Accountant, Certified Internal Auditor and Certified Financial Services Auditor.

He is a member of the Islamic Banks Committee of Association of Banks in Lebanon (ABL) and the AAOIFI Sharia Standards Committee.

He was also a member of the venture capital and Islamic securitisation study group as well as the Islamic corporate governance study group at the Central Bank of Lebanon in 2007.

Dr Al Fakih has lectured on the principles of Islamic jurisprudence at the Islamic University of Beirut’s Al Sharia College and delivered seminars in different countries in collaboration with International Monetary Fund, ABL and Union of Arab Banks, covering major Islamic finance topics on principles of Islamic finance, structured finance, risk management and audit. “I am honoured for the trust and confidence that have been placed on me,” he said.

Shaikh Ebrahim also paid tribute to the sterling leadership and immense achievement of outgoing secretary- general Dr Mohamad Nedal Alchaar, who has assumed the position of the Minister of Economy and Trade of Syria.

He will continue to oversee AAOIFI’s operations during the transition period before Dr Al Fakih’s appointment takes effect on February 1. He will also continue to serve as a member of AAOIFI board.

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Noor Islamic Bank Social Media

Global Islamic banking assets with commercial banks to reach US$1.1 trillion in 2012, reveals Ernst & Young report

BAHRAIN. According to Ernst & Young’s inaugural World Islamic Banking Competitiveness Report 2011, Islamic banking assets with commercial banks globally will reach USUS$1.1 trillion in 2012, a significant jump of 33% from their 2010 level of US$826 billion.

The report also highlighted that Islamic banking assets in the Middle East and North Africa (MENA) region increased to US$416 billion in 2010, representing a five year CAGR of 20% compared to less than 9% for conventional banks. As new geographies open up to Islamic banking, the MENA Islamic banking industry is expected to more than double to US$990 billion by 2015.

The report was presented at a special plenary session of the 18th Annual World Islamic Banking Conference today where more than 1,200 industry leaders from over 50 countries gathered to chart the future of Islamic finance.

The report explores key industry trends and critical success factors guiding the global Islamic banking and finance industry into its next chapter of performance and growth.

Ashar Nazim, MENA Islamic Financial Services Leader, Ernst & Young, said: “The global Islamic finance industry continues its quest to boost international competitiveness and to build a sustainably profitable business model. Both the challenge and the opportunity currently facing leading industry players is how will Islamic banks succeed in making the historical growth curve sustainable.”

Growing Islamic banking assets and market share

Islamic banking market share of all banking assets in the MENA region has reached 14%, whereas in the GCC it crossed the all important 25% threshold in 2011. The report expects that there will be a change of play going forward as Islamic banks compete for mainstream customers who are open to Islamic or conventional banking.

Ashar adds: “A worrying concern is the limitations in the enabling legislative, regulatory, tax and legal environment in most OIC markets, which add to the cost and complexity of Islamic banking operations. Where there are guidelines and standards issued by industry infrastructure institutions, their reach and enforceability remains a concern. These must be addressed as priority.”

Performance risks and advantages

The report cautions that the Islamic banking industry is still fragmented with most Islamic banks holding less than US$13 billion in assets and are yet to achieve scale as they face pressure on profitability. In addition, exposure to downgraded real estate markets remains a concern for Islamic banks and this may also affect future growth.

Business repositioning, mergers and acquisitions and conversions appear set to dominate MENA Islamic banking in 2012. A sizeable decline in industry profitability from 2006 levels of returns on equity of 23% to the present levels of around 10% have left Islamic banks exposed to the charge of operational deficiencies.

Clearly, the structural advantages of stronger retail focus begetting better financing margins, higher deposit growth and higher proportion of free deposits needs to be translated into higher profitability.

However, misaligned people-processes-systems have led to high cost to income ratios for most Islamic banks.

“Higher provisions and operating costs have contributed to the steep decline in profitability of Islamic banks. Returns on assets have dropped from 4% in 2006 to 1.5% in 2010, due to deteriorating asset quality,” added Ashar.

The CEO Agenda

According to the report, two key themes are starting to emerge. The first is the need for excellence in banking operations and the second is to improve product innovation. The combined MENA Islamic banking profit pool could rise to US$15 – 19 billion in 2015 from the 2010 levels of US$5 – 6 billion, primarily by combining operational transformation with a more robust risk infrastructure.

Potential growth opportunities for regional Islamic banks include the emerging Islamic geographies, growing affluence among retail customers, better alignment with real economy and rising SME banking.

“Ensuring sustainable growth will require brave, meaningful and decisive performance improvement initiatives. CEOs and boards appear keen on transforming operating models for quality growth and to create sustainable shareholder value,” added Gordon Bennie, MENA Financial Services Leader, Ernst &Young.

“Reduced profits and valuations are amongst the biggest business risks facing Islamic banks, which can partially be tackled by introducing a service driven culture, investing in customer centric activities, and with better use of technology and risk management tools. Sharpening of their Shari’a differentiation by acquiring and building specialist product skills and ensuring better integration with the real economy will help CEOs to take their banks to the next phase of growth,” said Gordon.
Call to establish iSWF

The growth opportunities in OIC markets are clear. The best way to take advantage of them, however, is not. With the growing internationalization of the industry, the report says that now would be the opportune time for the industry to consider establishing Islamic sovereign wealth funds (iSWF).

“Most Islamic banks remain localized to their GCC base which makes it very difficult to get a holistic picture of emerging markets and opportunities.  iSWF could provide this visibility very effectively.  As the lead promoter, the iSWF would attract significant interest from other financial institutions, helping the industry grow in a sustainable way,” concluded Ashar.
About Ernst & Young MENA

The MENA practice of Ernst & Young has been operating in the region since 1923.  For over 87 years, we have evolved to meet the legal and commercial developments of the region. Across the region, we have over 4,200 people united across 20 offices and 15 Arab countries, sharing the same values and an unwavering commitment to quality. We make a difference by helping our people, our clients and our wider communities achieve their potential.
Ernst & Young’s award winning global Islamic Finance Center of Excellence is the market leader in providing Islamic financial advisory services to a diverse range of financial institutions.  The center is credited with advising on a number of innovative initiatives in Islamic finance.
About Ernst & Young Global:

Ernst & Young is a global leader in assurance, tax, transaction and advisory services. Worldwide, our 152,000 people are united by our shared values and an unwavering commitment to quality. We make a difference by helping our people, our clients and our wider communities achieve their potential.

Source: Noor Islamic Bank Social Media

An Islamic bank for Australia

It’s every Islamic home financing company’s dream to become an Islamic bank, but it is not necessarily the dream of every community cooperative.

However, that is just what is about to happen to Australia’s MCCA as the building blocks are put in place to see the launch of Australia’s first Islamic retail bank catering to the needs of the domestic population – both Muslim and non-Muslim alike.

World Islamic Banking Competitiveness Report to be launched at WIBC

The World Islamic Banking Competitiveness Report 2011/12, developed in collaboration with Ernst & Young, will be officially launched on 22 November 2011 at the 18th Annual World Islamic Banking Conference (WIBC 2011)

he World Islamic Banking Competitiveness Report, an initiative designed to not only identify but also to raise the bar of competitive excellence, strategic leadership and performance improvement in the global Islamic finance industry, now in its eighth annual edition, will analyse key strategies that leading Islamic financial institutions must deploy in order to ensure continued growth in a challenging economic environment.

Emirates eyes Islamic finance as crisis-hit EU banks back down

Dubai: Emirates airline is looking at the more resilient Islamic finance market to fund aircraft deliveries as international banks back out of plane deals because of the Eurozone debt crisis.

European lenders, especially French banks, which have been major financiers for Emirates’ aircraft deals with Airbus and Boeing, have become risk-averse because of the crisis, the airline’s president Tim Clark told Reuters.

“We were kind of planning for finance from European banks… but it’s just a bit difficult now,” said Clark.

Islamic Banking Making Inroads

Amid Turkey’s turn away from strict secularism, Islamic banking practices in the country are gaining currency. But they still face significant obstacles as they strive to enter the financial mainstream.

Turkey at present has four Islamic banks — three that are partially owned by companies based in the Persian Gulf — which accounted for 5 percent of Turkey’s 1-trillion-lira ($559 billion) banking sector in late 2010, according to data from the Participation Banks’ Association of Turkey, a lobbyist group for Islamic banks.

Islamic Finance is growing at an unprecedented rate and it is no surprise that many investors are tapping into the Shariah compliant sector. It is already estimated that Islamic Finance will be worth $2 trillion dollars by 2012 and this figure my soar in the upcoming years.