10/22/08

Shari’ah compliant assets to reach half a trillion dollars by the end of 2008

Report highlights growth of Islamic banking and how banks can compete

London, 22 October 2008 - Islamic assets have grown between 15-20% per annum over the past five years, making Islamic banking one of the fastest-growing sectors in the global financial services industry. A new report by the global management consultants Booz & Company predicts that the market for Shari’ah compliant financial services will continue to grow rapidly, driven by both demand and supply factors. The preference of the growing Muslim population to invest in Islamic products, and the fact that Islamic banks are constantly increasing their market share and are generally more profitable than Western banks means that this sector will continue to grow despite the current turmoil in the global financial markets.

The report, Competing Successfully in Islamic Banking, notes that by 2009, the number of Islamic mutual funds could rise to 925 – an increase of 28% per annum over one decade, and the volume of new Sukuk bond issues has risen to almost US$32 billion – an increase of 54% per annum since 2003. More than 50 Islamic financial services institutions have been launched in the last two to three years alone.

“With Islamic banking entering the mainstream, and with more and more conventional banks offering Shari’ah-compliant products, the clear separation between Islamic and conventional banking is vanishing,” says Dr. Peter T. Golder, Booz & Company principal and one of the report’s authors.

The increasing number of players in the marketplace is putting pressure on pricing and eroding margins. As competition intensifies, the providers of Islamic financial services need to develop new sources of differentiation – possibly between full-fledged Islamic banks and those banks with Islamic windows.

As Peter Golder notes, “The market for Islamic banking shows rich potential. However as the competition intensifies, the winning players will be those that are able to deploy differentiated capabilities and address the existing challenges unique to Islamic banks.”

The future sources of differentiation for Islamic banks are likely to revolve around three areas:

Product development and innovation. This requires a market intelligence process that captures customers’ needs; robust product development methodology that enables rapid development and deployment of products; a mechanism to engage the Shari’ah Board early on to seek approval; and automated monitoring tools that ensure compliance.

Distribution. It is essential to have a well-trained workforce to satisfy the increasing proportion of customers who are not satisfied with a statement that a product is Shari’ah compliant but wants to understand the underlying features of the product. On the channel side, it works effectively to partner with asset/commodity providers – for example, Kuwait Finance House operates two auto showrooms. When a customer makes a purchase they can then arrange the financing direct with KFH’s on-site bankers, which buys the car through its Murabahah department and resells it to the customer at a profit.

Operational excellence. As customers are likely to continue to buy conventional and Shari’ah compliant products, organisations need to determine how they will deal with and respond to different customer needs via distinct channels in a consistent and coherent manner.

The report also identifies challenges for Islamic banks that will need to be overcome:

• Establishing appropriate risk and liquidity management techniques – for example, the differing risk profiles of Islamic financing techniques such as Murabahah; and the absence of short-term liquidity management and longer-term refinancing instruments.
• Achieving consistent Shari’ah supervision – there is an absence of universal standards, and until a consistent method of supervision is established there is a huge burden on the marketing of Islamic financial services.
• Managing the talent pool – there are currently not enough skilled people, especially at the Shari’ah Board level, where there are few scholars available; many of them also sit on multiple boards, leading to potential conflicts of interest. Educational institutions are starting to respond to this need, but in the short term the lack of skilled people is likely to limit the development of the industry.
• Addressing legal and tax restrictions – some countries, such as the UK, have abolished legislation that places Islamic finance at a disadvantage due to restrictions. Unless other countries follow a similar path it will limit the development of this form of finance.