Cooperation between the Asian Development Bank and IFSB may help the growth of Islamic microfinance

I was interested by the Asian Development Bank's decision to work with the Islamic Financial Standards Board over a five-year period to "support member countries in legal and regulatory aspects of meeting the IFSB's standards".  The reason cited by the ADB is that the majority of the IFSB's membership is located outside of the three countries with the largest Muslim populations (Indonesia, Pakistan and Bangladesh, which are home to only 7 members).

The development of Islamic finance has naturally occurred in countries that have either decided to extensively promote Islamic finance (like Malaysia) or countries where there is a large number of ultra-high net worth Muslims because that is where the profits are likely to be easier to come by.  With more resources to be potentially tapped by Islamic financial institutions, it will attract larger institutions that can provide the scale needed for Islamic finance to become large enough to reach the scale where it becomes profitable.  

As I wrote in my newsletter (which you can subscribe to on the right side of the blog), the recent decision by HSBC Amanah to leave many of the markets where it operates is a recognition that the bank is so large that many of the markets where Islamic finance exists are not large enough to support a bank of its size (and also move the needle in terms of its profitability).  

HSBC noted that although it is leaving 6 of the 9 markets where it offered Islamic banking services (with most post-restructuring business based in either Saudi Arabia and Malaysia), it expects to retain 83% of the pre-restructuring revenues. Included in the markets it is exiting are Bangladesh (it will remain in Indonesia, although with a limited presence), two of the three largest Muslim-majority countries in the world. 

Islamic finance exists already in Pakistan, Indonesia and Bangladesh, although these countries represent a small portion of total Islamic finance assets, with no countries appearing in the 9 largest countries (according to data as of the end of 2010 from The Banker, included in the UK Islamic Finance Secretariat's 2012 report).  The assets outside of those 9 countries accounts for just $83 billion, 8% of the total Islamic finance industry, even though 570 million people, most of them Muslim, live in these three countries. 

It boils down to a simple point.  Islamic finance, like conventional finance, is by and large not focused across the wealth distribution, it is targeted at people of moderate or high net worth.  And where microfinance has developed to provide financial services to those without significant wealth, there has been limited development of Islamic finance and it has not received much support from the Islamic finance industry.  The ADB helping countries adopt IFSB standards will not change this, but by supporting Islamic finance in countries where it is not well developed, and where there is likely to be demand for it, it may provide the governments with greater familiarity with Islamic finance that is a precondition for adopting regulations that could allow Islamic microfinance to develop. 

Thursday bullets

• Saudi Electric Company cut the yield guidance on its next sukuk issuance to 95 basis points over SIBOR compared to a spread of 160 basis points over SIBOR for its last sukuk.
  
• The Asian Development Bank is considering starting a multi-billion sukuk program.
  
• Dubai World will begin not paying interest on its debts beginning this month.
  
• Yuri Asset Management received approval for the first Islamic investment fund.
  
• Bank Islam and several Middle Eastern investors are looking to invest in Bank Muamalat's rights issue.
  

Islamic finance regulatory risk, US Islamic mortgages, Islamic financial practices and the crisis, IsDB/ADB Infrastructure Fund announced

The Islamic finance industry is at risk from an over exposure to equities and real estate and a lack of regulatory oversight in some jurisdictions may leave Isalmic financial institutions less able to withstand further deterioration in the real estate or equity markets. Reuters quotes Raj Madha an EFG-Hermes banking analyst describing the quasi-debt products used by Islamic finance institutions:

"Quite often you have a lot of mezzanine products so banks have a lot of latitude on whether to report those things under one or the other category [...] It allows for opacity which certainly some banks are able to take advantage of, and at least in principle, it creates the opportunity for not disclosing some losses"

An article in a UAE-based newspaper, The National, provides as good an article about the Islamic home finance market in the US as I have seen recently. The article focuses on Guidance Residential, one of the Islamic finance companies in the US which has financed 6,000 customers home purchases for a combined value of $1.5 billion. Although a tiny slice compared to the overall housing market in the US, the Islamic mortgages have experienced far lower rates of delinquincy, approximately half of the nationwide rate of 7.8%, and the company has only served five foreclosure notices.

The Islamic Development Bank and the Asian Development Bank agreed to set up the first Asian multi-country Islamic infrastructure fund. It is the Asian Development Bank's first foray into the Islamic finance market. Providing for infrastructure is a challenge globally and Asia is no exception and this could provide a model for other Islamic infrastructure projects to meet the needs of many countries not only just in Asia.

Khurshid Khan is interviewed in an article about the lessons that can be learned from looking at Islamic financial principles in the context of the recent crisis.

Other News

• Dawood Ahmedji, head of Deloitte's European Islamic finance unit, believes that Islamic finance would be able to fund some projects derailed by the onset of the credit market crisis by attracting funds from the GCC.
  
• The Monetary Authority of Singapore revised its regulations to put Islamic financial products on a level playing field with conventional products but decided against instituting a separate regulatory regime for Islamic financial institutions.
  
• Islamic Finance Info Inc, an online company providing information on the Islamic finance industry, has launched a website with information about Islamic financial institutions, Shari'ah scholars and Islamic financial products, IslamicFinanceInfo.com
  
• Qatar's planned bond issuance may include some sukuk as a way of diversifying the government's financing needs.
  
• An interview with the head of Kauthar Bank, an Islamic bank in Azerbaijan, describes how the bank uses mudaraba, musharaka and ijara on both sides of its balance sheet. While most Islamic banks have a heavy reliance on murabaha, Kauthar is restricted by banking laws from using this product. The success of a bank that does not use murabaha could provide an indication about the direction that Islamic banking is heading as there is some criticism of murabaha because of its similarity with conventional interest-bearing loans.
  
• An article summarizes some of the recent developments in the Islamic finance market including planned issuance of sukuk by the Islamic Development Bank and a sovereign issue from Bahrain as well as improved sukuk prices in the secondary markets and developments in the UK.