Staying competitive in the global Islamic Finance industry

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Yang di-Pertuan Agong awarding Dato’ Dr. Abdul Halim Ismail The Royal Award in Islamic Finance in recognition of his contribution to the industry.Yang di-Pertuan Agong awarding Dato’ Dr. Abdul Halim Ismail The Royal Award in Islamic Finance in recognition of his contribution to the industry.Yang di-Pertuan Agong awarding Dato’ Dr. Abdul Halim Ismail The Royal Award in Islamic Finance in recognition of his contribution to the industry.

The setting up of Bank Islam Malaysia Berhad in 1983 heralded the start of Malaysia’s entry into the Islamic finance (IF) marketplace. As the new kid on the block, Bank Islam had to prove itself a viable alternative to the conventional banks and show that IF based on the Islamic principles of Syariah offered a sound business proposition that was relevant in today’s world.

Since then, Malaysia has developed a full-fledged Islamic financial system operating in parallel to its conventional counterpart. According to a Thomson Reuters study, Islamic commercial banks held about US$1.2 trillion worth of assets as at the end of 2013, and they account for roughly a quarter of deposits in Gulf Arab countries, and over a fifth in Malaysia.

Malaysia is the undisputed market leader in sukuk issuances, accounting for 63%, or RM133.38 billion of global market share as of the first half of 2014.

The Islamic Finance Development (IFD) Report 2014, which was released during the recent Global Islamic Finance Forum 2014 (GIFF 2014), shows Malaysia performed consistently well across five indicators – quantitative development, knowledge, governance, CSR and awareness – against 91 other countries.

Malaysia tops the rest for knowledge and quantitative development and is ranked second for governance and awareness. The report also clearly shows Malaysia leading the pack in IF within Asean and on track to market itself as a leading centre of global IF services.

(The IFD Report is prepared by the Islamic Corporation for the Development of the Private Sector – a unit of Saudi Arabia’s Islamic Development Bank – together with Thomson Reuters.)

The Global Competitiveness Report 2014-2015, published by the World Economic Forum, ranks Malaysia 20th out of 144 economies, ahead of a number of advanced economies such as Australia, South Korea and France. The report also ranks Malaysia fourth in the financial market development pillar, which attests to its efforts to position itself as a global hub for IF services.

Staying ahead of competition

Whilst the successes are to be acknowledged, Malaysia’s IF players have to focus on the future to stay ahead of global competition posed by their counterparts in countries such as Bahrain, Oman and UAE who were ranked second, third and fourth respectively by the IFD 2014 Report.

In her keynote address at GIFF, which took place last month, Bank Negara Malaysia (BNM) Governor Tan Sri Dr. Zeti Akhtar Aziz spoke of BNM’s desire to see banks increase and enhance their connectivity with other countries.

She urged Islamic banks to expand beyond credit intermediation to investment intermediation by applying innovative forms of risk sharing contracts. She disclosed that a multi-bank platform is currently being developed to facilitate efficient mobilisation of private sector funds, from both individuals and corporations, to finance targeted industries and ventures that need funding.

In this way, she explained, Islamic banking institutions would strengthen further the linkage of finance and real economic activities, whilst also contributing more towards inclusive and balanced growth.

This theme was picked up by various speakers during the GIFF 2014. Innovation, talent development and risk assessment were among the topics analysed and discussed to spur increased internationalisation, connectivity and cross-border deals.

Sukuk, takaful and halal industry

Malaysia has led the way in showing the dynamism of sukuk as a global product for fund-raising and investment, but experts suggest the global sukuk market cannot sustain its growth and vibrancy until there are more issuances from conventional financial hubs (such as Japan, S. Korea and the US) in diverse currencies.

A study by Moody’s Investor Service shows that only a fraction of the total outstanding sukuk market is denominated in hard-currencies and a lion’s share of about two-thirds is associated with Malaysia.

Although Malaysia’s takaful industry will be experiencing major changes over the next few years in order to comply with the Islamic Financial Services Act 2013, it remains one of the biggest takaful markets in the world. With sufficient regulatory and capital market support, takaful operators can move towards internationalisation.

However there is reluctance to do so due to the lack of convergence between the regulations of each country and rigorous standards of risk evaluation.

Observations were shared about the low participation by IF players in the private equity and venture capital markets. Such investments are regarded as riskier due to their longer term period and because they are illiquid. The consensus was that unless the risk assessment framework adopted by financial institutions was tweaked to take into account the prevailing market demands, few IF industry players would be prepared to expand into this type of financing.

Such stringent risk evaluation methodologies also limit the incentive to expand operations overseas in emerging markets where there is long term growth potential, such as in Morocco, Bangladesh or even Afghanistan.

Risks associated with business ventures in non-traditional markets have to be understood in different ways and risk appetites reviewed.

The halal industry domestically and worldwide is projected to grow significantly, and the IF industry can expect to play a higher profile role in financing their activities. Halal business operators are urging IF institutions to be more open to supporting their businesses.

IF specialists needed

Among the points brought up by the speakers was that IF training and education in Malaysia was producing competent generalists but too few specialists. Even the BNM Governor acknowledged the need to aggressively address this deficiency through concerted efforts by both industry players and regulators alike.

A thriving and innovative IF marketplace needs talent with a strong knowledge in value propositions and a capacity to initiate product development in creative ways.

Malaysia is a prime mover in pushing the advance of IF and banking. The GIFF 2014, with its theme “Marketplace for Global Linkages”, was a useful and timely platform to reflect on the industry’s performance and future direction.

The GIFF 2014 ended with a Royal gala dinner which saw academician and banker Dato’ Dr Abdul Halim Ismail awarded the Royal Award for Islamic Finance by the Yang di-Pertuan Agong.

Awarded once every two years, the Royal Award is conferred by BNM jointly with the Securities Commission Malaysia under the Malaysia International Islamic Financial Centre initiative. The Royal Award recognises visionaries in IF whose contributions to the global economy and social progress of communities around the world are considered unprecedented and significant.

Abdul Halim, who is the first Malaysian recipient of the award, received a medallion, a certificate of recognition and US$250,000 (RM792,500).

Note: The Malaysian Government has since announced measures to further strengthen Malaysia’s Islamic Financial Market during last Friday’s Budget 2015 announcement. Excerpts:

  • Currently, the Malaysian Islamic finance accounts for 25% of total assets in the banking system. Internationally, Malaysia remains as the largest sukuk market accounting for 60% of the global sukuk market.
  • The Government will introduce a new shariah-compliant investment product in 2015 called the Investment Account Platform (IAP). IAP will provide opportunities to investors in financing entrepreneurial activities and developing viable SMEs. At the same time, IAP will be a platform to attract institutional and individual investors including high net worth individuals to invest in the Islamic financial market. Initially, IAP will be implemented with a startup fund of RM150 million.
  • To promote investment in IAP, the Government proposes individual investors be given income tax exemption on profits earned from qualifying investment for three consecutive years.
  • To boost domestic sukuk and bond issuance and trading, the Government introduced the Exchange Traded Bond and Sukuk (ETBS) in January 2013. The Government proposes that the Malaysian Government Securities and Government Investment Issues be listed and traded in ETBS.
  • In addition, expenses incurred in the issuance of sukuk are given deduction from year of assessment 2003 until year of assessment 2015. Therefore, it is proposed that deduction for expenses incurred in the issuance of sukuk based on Ijarah and Wakalah principles be extended for another three years until year of assessment 2018.

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