State Bank of Pakistan adds transparency for mudaraba deposits

The State Bank of Pakistan released its new regulations (pdf) recently for how Islamic banks treat mudaraba deposits, and it is a welcome dose of transparency that should provide protection to depositors by providing greater transparency about the source of profits paid on the mudaraba depositor accounts.  The new regulations require Islamic banks to allocate deposits to separate 'pools' of assets and also require them to "specify the objectives, investment strategy, and risk characteristics of each pool".  

There appears to be little in the new rules that limit depositors to being invested in one pool, and the banks can likely use a 'fund-of-funds' approach to meet the liquidity and risk needs of the depositors.  For example, a longer-tenor deposit product (analogous to a fixed term certificate of deposit) couuld be more heavily allocated to longer-tenor deposit pools to generate extra yield, while shorter-tenor deposits will be more heavily allocated to shorter-term pools, with more assets like short-term murabaha and wakala and fewer long-term assets to maintain liquidity for depositors.  Islamic banks can invest their own equity as well as current accounts (qard), so long as they maintain the principal value and bear the investment risk themselves.

In addition to regulating how deposits are invested, there are requirements for each pool to maintain a liquidity buffer by holding 20% of assets in tradable contracts like ijara financing, ijara sukuk and diminishing musharaka (which can be reduced to 10% with Shari'ah-board approval).  This is likely a prudent move since each pool functions like a 'bank-within-a-bank', with its own assets, liabilities, funding sources and expenses.  If the assets were not liquid, then the bank would have trouble redeeming depositor's money (non-tradable assets like murabaha are typically only traded at par).

The liquid assets in each pool serve as a source of liquidity if depositors withdraw funds.  With an executive committee's approval, the bank can move assets between pools.  The only way this can be done equitably is with tradable assets; otherwise it is just moving assets (like murabaha receivables) between pools and shifting losses from one pool to another.  This is the one point where there is weakness in the regulations: there does not seem to be specific rules for banks that have pools which have run out of liquid assets before they meet withdrawal requests.

It is generally frowned upon for sukuk issuers to advance liquidity to mudaraba sukuk to meet periodic distributions, but would it be equally problematic for Islamic banks to advance liquidity to depositor pools by buying out the share held by depositors as rabb ul-maal if it is done at market value, with any loss first absorbed by the Investment Risk Reserve (IRR)?  Could the Profit Equalization Reserve (PER) be used to make up any of the shortfall in principal?

These are not clear from my brief read of the new regulations (readers who can help me understand anything I might have missed, should email me).  However, in general, I am supportive of efforts to introduce greater transparency into the Islamic finance industry, particularly transparency that delineates equity investors more formally from investment account holders.  The level of disclosure around the new rules, as well as the central bank's ability (as a regulator) to determine whether the actual pool investments meet the stated objectives of each pool will be the biggest factor in determining how beneficial these new rules can be. 

IF in China, Takaful & Retakaful, diminishing musharaka & Anwar Ibrahim interview

London Asia Capital creates Islamic finance division in Western China

London Asia Capital plc, a British merchant banking group, is opening an Islamic finance division in Xinjiang, China in partnership with Xinjiang Investment Corp. The Xinjiang region is home to most of China's estimated 20 million Muslims. The Islamic finance division will offer credit guarantee services to Islamic and Shari'ah-compliant companies.

Lloyd's of London 'very interested' in takaful

Lloyd's of London, the U.K.-based insurance company, expressed continued interest in expanding to serve the takaful markets in the Middle East and Malaysia. Chairman Peter Levene said he believed that takaful "could be a much more acceptable way for individuals and corporations in that area to take out insurance, which they have been unable or unwilling to do in the past" and said Lloyds was "very interested" in entering takaful markets. In a press release from Lloyds on March 1st, Peter Levene expressed that Lloyds believed "there are some potentially strong business opportunities in the Retakaful [Islamic reinsurance] sector and that Lloyd's could become an attractive platform for capital providers wishing to invest in this area."

Citigroup offers home finance in Malaysia

Citibank Bhd now offers a diminishing musharaka home financing co-ownership product where payments are broken into a rental share and a buyback share, which is used to increase the client's share of ownership in his house.

Interview with Anwar Ibrahim

There is an interview with Anwar Ibrahim on Islamic finance. He was recently announced as a speaker at the International Islamic Finance Forum (IIFF) in Dubai in April 2007 recently.

UM Financial, DJIM Titans 100 Index ETF, Sukuk standards

Shari'ah-compliant mortgages in Canada

The Toronto Star has a story on a financing company in Canada, UM Financial, that has been offering diminishing partnership mortgage products (musharaka mutanaqisa). The company has partnered with two companies, first the Credit Union Central of Ontario (CUCO), then recently also the McMaster Savings & Credit Union. The Shari'ah board of UM Financial is made up of local Islamic scholars and community leaders.

Increase appetite for risk in IFIs--Rushdi Siddiqi

Rushdi Siddiqi, Director of the Dow Jones Islamic Market Index Group, believes Islamic financial insitutions need to increase their appetite for risk. Mr. Siddiqi believes that Islamic banks need to increase their size in order to achieve the goal of higher appetite for risk.

Dow Jones Islamic Market Titans 100 Index launched

The first Islamic exchange traded fund (ETF) was licensed to be listed on the Swiss exchange. The ETF is issued by BNP Paribas and based on the Dow Jones Islamic Market Titans 100 Index (pdf), an index of the 100 largest companies that comply with the Shari'ah standards of the Dow Jones Islamic Market Index.

IIFM & ICMA to develop sukuk standards

The International Islamic Financial Markets (IIFM) and International Capital Market Association (ICMA) have agreed to cooperate in developing universal standards for sukuk to increase the appeal of the products.

Shari'ah supervisory boards, KFH Malaysia to offer retail products, Other news

KFHMB to offer retail Islamic banking products in 2007

The Malaysian subsidiary of Kuwait Finance House, Kuwait Finance House (Malaysia) Bhd (KFHMB) has announced that it will roll out its line of retail Islamic banking products this year. KFHMB offers foreign currency current accounts, diminishing musharaka (musharaka mutanaqisa) and other home financing plans. The bank is one of only three foreign-owned Islamic banks in Malaysia and sees its expansion there as the first step in opening branches across Southeast Asia.

Role of Shari'ah Supervisory Boards

In a detailed description of the shortage of qualified Shari'ah scholars, Nik Muhamad Hafiz Nik Hassan, the senior executive of the Islamic Financial Services Unit at the Labuan Offshore Financial Services Authority (LOFSA), highlights a criticism of the current structure of Shari'ah Supervisory Board. Scholars like Dr. Ali Mohammed El Gari and the late Dr. Zaki Badawi have criticized the appearance of a conflict of interest between the Shari'ah board's role performing their regulatory role while also being paid by the banks for which they provide oversight. While accurate figures are withheld by Islamic financial institutions, it is widely understood that the fees paid to Shari'ah scholars is very high (up to $500,000) and has increased in recent years as the demand for qualified Shari'ah scholars has risen faster than the supply.

Other news

The Gulf Daily News in Bahrain provides a description of the opening day of the International Islamic Financial Market (IIFM) meeting in Karachi, Pakistan.

As expected, the Indonesion government announced a forthcoming Islamic bond issue. Although Indonesia is the largest Muslim majority country in the world by population, the country has an underdeveloped Islamic finance market. 88% of its 245 million people are Muslim.