The International Islamic Financial Market (IIFM) held a meeting of Shari'ah scholars in Dubai to discuss the Tahawwut (Hedging) Master Agreement. The Tahawwut Master Agreement, developed in partnership with the International Swaps and Derivatives Association (ISDA), has not been described in significant detail, in particular what types of hedging activities it would cover. There are certainly areas where hedging could be useful in the Islamic finance industry, and a standardized agreement could provide some standardization and a starting point for more discussions about the place of Shari'ah-compliant hedging products in the industry.
The difficulty with many hedging products in Islamic finance is that there are so few and each hedging transaction must have a counterparty to assume the hedged risk. For example, if an Islamic bank hedges against its foreign exchange or interest rate risk, there must be a counterparty that is essentially unhedged, which would probably be characterized as speculation. There could be a central counterparty that enters into enough transactions to be able to be relatively hedged itself, but this is not yet the case. Alternatively, a conventional bank could step in and act as the counterparty in the transaction. In this case, that bank would then go into the conventional swaps/derivatives markets to hedge its own risk.
This raises the question of whether the Shari'ah-compliant hedge was beneficial to anyone except the counterparty. If an Islamic bank hedges its risks with a conventional bank, which then hedges itself against the same risk, who benefits except for the conventional bank which inserts itself into the middle and presumably collects fees?
To some degree this problem occurs in other Islamic finance transactions. However, the nature of derivatives as opposed to other investment products, highlights this problem. In the best case, the IIFM-ISDA Tahawwut Master Agreement will provide a transparent and simple way for hedging transactions to be structured that will lead to the development of a common counterparty that only acts in Islamic derivatives. There are similar institutions in emerging market currency hedging. The scope of the problem would be large enough to probably require some assistance from a multi-lateral institution like the Islamic Development Bank.
KFH real estate investment in the U.S.
Kuwait Finance House made a $242 million investment in a real estate project in Chicago, Illinois which is currently under construction and is expected to be completed in 2011. The building will be a 40-storey Ritz-Carlton Residences, a condominium tower and $137.5 million of the project will be debt financed from German landesbanks Helaba.
Helaba recently arranged its first Shari'ah-compliant real estate deal in the U.K. with Gatehouse Bank, so the debt for the Chicago project may be Shari'ah-compliant. If it is not, it is likely to be separated from the equity using an ijara-istisna'a structure which has been used internationally over the past decade.
- Saudi Hollandi Bank issued a $193 million subordinated, callable sukuk.
- The Islamic Development Bank saw its AAA rating affirmed by Standard & Poor's.
- Bursa Malaysia may allow individual investors to invest in sukuk. Following Dubai World's debt crisis and the multitude of questions asked regarding the ability of investors to have recourse to the underlying assets, it would seem that opening sukuk secondary markets up to individual investors could create the potential for problems down the road.