Islamic Banking

Empowering knowledge, transforming lives
Professional Studies Division

The First International Benchmark in the area of Islamic Finance
D I P L O M A
IBF &T
No 04, Collingwood Place, Colombo 06, Sri Lanka. Tel / Fax : +94 11 4413030

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Empowering Knowledge, Transforming Lives
F G K C
BANKING & FINANCE
QUALIFICATIONS
INSIDE Overview...
03 June / July 2008 Islamic Finance Today
Performance of Islamic Banks
09
Subprime Crisis & Islamic Finance
18
Basic Facts of SUKUK
34
When West meets East
13
Subtle nature of RIBA
24
Global News
36
Empowering knowledge, transforming lives
Professional Studies Division
The First International Benchmark in the area of Islamic Finance
D I P L O M A
IBF &T
No 04, Collingwood Place, Colombo 06, Sri Lanka. Tel / Fax : +94 11 4413030

Email : info@fgkcentre.com Web : www.fgkcentre.com Hot Line - 077 46 16 710
FIRST GLOBAL KNOWLEDGE CENTRE
R
Empowering Knowledge, Transforming Lives
F G K C
BANKING & FINANCE
QUALIFICATIONS
With The
Shariah Compliant way to help you...
Asiff Hussein - Editor - Islamic Finance Today
needing venture capital to offer the world something
better in terms of innovations for example. As seen
in the run up to the upcoming US election where
fundraising decides the outcome to a significant
extent, Barrack Obamas strategy of tapping a broader
spectrum of the population for small contributions
rather than depending on handouts by a few wealthy
individuals such as Hilary Clinton did, paid off with
the Obama campaign raising record campaign funds
the highest ever in US history. As such, there is no
reason why the same cannot apply to the banking
or finance industry. Ready access to funds remains
a pressing need for many people, particularly in the
developing world and it is high time that they were
given a chance to improve their lot.
Another issue that besets the industry is its supply-
driven approach with unfounded assumptions that the
Islamic Finance market is a captive market. Although
this may hold true for a few on religious grounds, it
does not hold true for everybody. People today look
for ease and convenience in financial transactions as
well as a good deal on their investments. Those who
cannot meet this demand will simply die out. As we
have always stressed Islamic banking should be one of
utter conviction, not just religious compulsion.
Unfortunately, what has been lost on most IFIs is
the need for satisfying their clientele on whom their
business depends. This is all the more so if Islamic
Banking and Finance is to gain its due place and not
just a foothold in the demanding west. This is where
winning hearts comes in. Business after all is the art
of winning hearts.
I
t is quite apparent
today that Islamic
Banking and
Finance has carved its
niche in the financial
markets of the world.
Be it in boardrooms
of the big-time
finance corporates
of the west, or
various banking fora
regularly held in the
Middle East or South
East Asia to small-
time entrepreneurs in
South Asian countries like India, Bangladesh or Sri
Lanka, Islamic Finance is the buzz word, the in-thing
today. The phenomenal growth of the industry has
left its detractors dumbstruck and its proponents
overjoyed.
At the same time, however, this does not mean that
Islamic Banking and Finance practitioners should rest
on their laurels, for just as the industry has expanded,
the problems it has encountered are also many. A
home market bias with a focus on tapping the funds of
the fabulously rich, a supply-driven approach resulting
in the dearth of innovative products and services and
the lack of a common lobbying group to convince and
pressurize states to adopt Shariah compliant banking
and financing are cases in point.
For instance, it is often asked why Islamic Financial
Institutions (IFIs) are so keen to turn out products
that cater only to the financial needs of a few affluent
clients rather than seeking to broadbase their services
to include SMEs or enterprising entrepreneurs
EDITORIAL No room for complacency
Layout & Design
M.G. Chandana Kumara
chandana@pioneer-publications.com
Marketing & Circulation
Mohammed Bashith
bashith@pioneer-publications.com
Mohammed Hikam
hikam@frstglobal-group.com
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Islamic Finance Today is a magazine exclusively
dedicated to Islamic Banking & Finance
published by Pioneer Publications (Pvt) Ltd.
It contains a variety of interesting features on
various aspects of Islamic banking and fnance
as well as other information of relevance to
the Islamic fnance industry. No part of this
publication may be reproduced in any form
without the prior written permission of the
publisher. Views expressed in this magazine
are not necessarily those of the publisher.
496, R.A.De Mel Mawatha
Colombo 03, Sri Lanka.
Tel : +94 11 2555 902-4
Fax : +94 11 2555905-6
www.pioneer-publications.com
Editor
Asif Hussein
editor@pioneer-publications.com
Editorial Board
Dr. M.A.M. Shukri
Dr. Shariq Nisar
Latheef Farook
Khalid Farouk
info@pioneer-publications.com
Research Partner
Research Intelligence Unit
info@riunit.com
The exclusive Islamic Finance Monthly
Islamic Finance
The Pulse of Ethical Business Today
With The
Shariah Compliant way to help you...
06 Islamic Finance Today June / July 2008
Brian Kettell - Brian Kettell worked for several years as an Economic Advisor for what later became
the Central Bank of Bahrain. He had numerous Islamic banking responsibilities. He has published
15 books on banking and fnancial markets. Three of these relate to Islamic banking. These are:
Introduction to Islamic Banking and Finance, Islamic Structured Finance- A Guide to Sukuk and
Islamic Banking and Finance in the Kingdom of Bahrain (BMA). Brian works as a consultant and
specialist trainer in Islamic banking and fnance. Details of his Training courses can be found on
www.islamicbankingcourses.com
Islamic Banking and Finance
OVERVIEW
Islamic Banking...
T
he development of Islamic banking and
finance is heralded as one of the most
significant advances of the international
financial markets in recent history. A recent study
reported an increase in the number of Islamic
financial institutions from 75 in 1975 to over 450 in
2008, within and outside of the Muslim world. The
assets of these organizations are estimated at $500-
$600 billion and growing at 20-30% per year and are
expected to rise by as much as 50 % in the next decade
given the high oil prices which have increased demand
for such financial services.
Yet another factor contributing to this increased
demand is the growing Muslim population in Europe.
The report notes that the increased demand for Muslim
financial institutions in the West has also prompted
western firms to provide these services. The report
cites Lloyds, HSBC, Deutsche Bank, and Citigroup
among the most notable examples of western firms
adapting to tap these new funds. Western governments
are also jumping into the fray, particularly the United
Kingdom, where Prime Minister Gordon Brown
recently declared his ambition for the UK to become a
gateway to Islamic finance and trade.
What is Islamic Banking?
Ask a conventional banker exactly what is Islamic
banking. He will mumble something about religion.
He will then say well they cannot charge interest
but they use something else which is the same thing.
This something else, incidentally, is never defined.
He will then move on to describe Islamic banking as
being about smoke and mirrors. To conclude he will
then profoundly announce that, with a few tweaks, it
is what he does every day anyway. And that is the end
of it.
OVERVIEW
Islamic Banking...
If you push him to actually describe an Islamic
financial instrument, and even worse if you actually
use some Islamic terminology, murabaha, mudaraba
etc, then his eyes will start to gloss over.
Frankly this stereo-typed image is all too prevalent
within the banking world.
Islamic banking is not about smoke and mirrors. It
is in fact about banking based on Islamically ethical
principles which are, in many ways, very different
indeed from conventional banking principles.
So what exactly is Islamic banking all about?
Islamic financial institutions are those that are
based, in their objectives and operations, on
Quranic principles. They are thus set apart from
conventional institutions, which have no such
religious preoccupations. Islamic banks provide
commercial services which comply with the religious
injunctions of Islam. Islamic banks provide services to
their customers free from interest, (the Arabic term for
which is riba), and the giving and taking of interest is
prohibited in all transactions. This prohibition makes
an Islamic banking system differ fundamentally from
a conventional banking system.
Financial systems based on Islamic tenets are dedicated
to the elimination of the payment and receipt of interest
in all forms. It is this taboo that makes Islamic banks
and other financial institutions different in principle
from their Western counterparts.
This rejection of interest poses the central question
of what replaces the interest rate mechanism in an
Islamic framework. Financial intermediation is at
the heart of modern financial systems. If the paying
and receiving of interest is prohibited, how do Islamic
banks operate? Here Profit and Loss Sharing (PLS)
comes in, substituting profit-and-loss-sharing for
interest as a method of resource allocation and
financial intermediation.
In fact, the basic idea of Islamic banking can be stated
simply. The operations of Islamic financial institutions
primarily are based on a profit-and-loss-sharing
(PLS) principle. An Islamic bank does not charge
interest but rather participates in the yield resulting
from the use of funds. The depositors also share in
the profits of the bank according to a predetermined
ratio. There is thus a partnership between the Islamic
bank and its depositors, on one side, and between the
bank and its investment clients, on the other side,
as a manager of depositors resources in productive
uses. This is in contrast with a conventional bank,
which mainly borrows funds paying interest on one
side of the balance sheet and lends funds charging
interest on the other. The complexity of Islamic
banking comes from the variety (and nomenclature)
of the instruments employed, and in understanding
the underpinnings of Islamic law.
Islamic Banking Principles
The principles as applied to Islamic banking and
finance are set out below.
1. Predetermined payments are prohibited
Any predetermined payment over and above the actual
amount of principal is prohibited. Islam allows only
one kind of loan and that is qard al hassan (literally
good loan) whereby the lender does not charge any
interest or additional amount over the money lent.
2. Profit and Loss Sharing
The principle here is that the lender must share in the
profits or losses arising out of the enterprise for which
the money was lent. Islam encourages Muslims to
invest their money and to become partners in order
to share profits and risks in the business instead of
becoming creditors. Islamic finance is based on the
belief that the provider of capital and the user of capital
should equally share the risk of business ventures,
whether those are industries, service companies or
simple trade deals. Translated into banking terms,
the depositor, the bank and the borrower should all
share the risks and the rewards of financing business
ventures.
This is unlike the interest-based commercial banking
system, where all the pressure is on the borrower:
he must pay back his loan, with the agreed interest,
regardless of the success or failure of his venture.
3. Making money out of money is not acceptable
Making money from money is not Islamically
acceptable. Money, in Islam, is only a medium of
exchange, a way of defining the value of a thing. It
has no value in itself, and therefore should not be
allowed to generate more money, via fixed interest
payments, simply by being put in a bank or lent to
someone else.
The human effort, initiative, and risk involved in a
productive venture are more important than the money
used to finance it. Muslim jurists consider money as
potential capital rather than capital, meaning that
money becomes capital only when it is invested in
business. Accordingly, money advanced to a business
as a loan is regarded as a debt of the business and not
capital and, as such, it is not entitled to any return (i.e.
interest).
4. Uncertainty is prohibited
Gharar, the Arabic term for uncertainty, risk or
speculation, is also prohibited.
Under this prohibition any transaction entered into
should be free from uncertainty, risk and speculation.
Contracting parties should have perfect knowledge
of the counter values intended to be exchanged as
a result of their transactions. The rationale behind
the prohibition is the wish to protect the weak from
exploitation. Therefore, options and futures are
considered as un-Islamic and so are forward foreign
exchange transactions given that forward rates are
determined by interest differentials.
5. Only Shariah approved contracts are
acceptable
Conventional banking is secular in its orientation. In
contrast, in the Islamic system, all economic agents
have to work within the moral value system of Islam.
Islamic banks are no exception. As such, they cannot
finance any project which conflicts with the moral
value system of Islam. For example Islamic banks are
not allowed to finance a wine factory, a casino, a night
club or any other activity which is prohibited by Islam
or is known to be harmful to society.
6. Sanctity of contract
Many verses in the Holy Quran encourage trade
and commerce, and the attitude of Islam is that there
should be no impediment to honest and legitimate
trade and business, so that people are encouraged to
earn a living, support their families and give charity
to those less fortunate.
Just as Islam regulates and influences all other spheres
of life, so it also governs the conduct of business
and commerce. Muslims have a moral obligation
to conduct their business activities in accordance
with the requirements of their religion. Islam
upholds contractual obligations and the disclosure of
information as a sacred duty.
OVERVIEW
Islamic Banking...
Roshan Madawela www.riunit.com
Research to assess performance
of Shariah Compliant Banks
-The need of the day
Empirical research incorporating time-series and cross country data is readily available in the
conventional fnance industry as it has been studied, researched and documented over a long
period of time. In the Islamic fnance sector, such material is scarce. With time and maturity in
the industry, the demand for detailed studies is set to increase.
W
hilst the Islamic Banking or Shariah
Compliant Banking (SCB) sector has
been around for several decades now
thanks primarily to pioneering efforts from countries
like Sudan Iran, Bahrain and Malaysia, the rapid
development of this sector has been a more recent
phenomenon. Consequently, the research material
that is available on the subject tends to lack the type
of empirical analysis that the conventional banking
sector enjoys. Despite the industry being valued at
some $750 billion (McKinsey & Co) with over 300
dedicated institutions and thousands of SCB service
windows operating in over 75 countries, proper
research with time series-data and cross-country
analysis has not been forthcoming as yet.
In an attempt to fill this gap, the IMF has recently
released a working paper using data on 18 banking
REPORT
Research to assess...
systems with substantial presence of SCB to provide
a cross-country analysis on the impact of SCB on
financial stability. It poses the question, Are Islamic
Banks more or less stable that conventional banks?
Diferent pillars
At the foundation of the SCB system are the two
concepts of profit and loss sharing and mark-up. In
the former the rate of return on the financial asset
or venture is either not known or fixed prior to the
undertaking whilst in the latter case, the purchase-
resale transaction is determined with reference to the
benchmark rate of return. Benchmark rates similar
to that offered by, for example, the London Inter-
bank Offered Rate (LIBOR) would serve as reference
points. The nature of profit share implies that the
banks ability to secure a sound return is a function
of its own investment decision and / or inputs made
during the post-investment period as compared to the
fixed return nature of the conventional system where
the entire risk is transferred to the borrower. Thus,
poor investment decisions on the part of the bank
will have a direct bearing on the returns gained by
depositors as the rate of return is determined by the
profit and loss sharing ratio.
Additionally, SCB instruments also differ from
conventional banks in the overall legal contracts,
governance and the liquidity structure. For instance,
Islamic banks have had to operate in an environment
sans proper inter-bank and money market functionality,
government securities and limited access to lender
of last resort facilities of the central banks. Due to
the principal requirement to be Shariah compliant,
Islamic Banks have less access to the risk-hedging
techniques available to the conventional banks such
as derivatives and swaps according to the IMF paper.
Comparative stability
With all these factors limiting the operations of
SCB, can the IMF study indicate the comparative
financial stability of SCB vis--vis their conventional
counterparts?
The findings suggest that SCB may be better able to
transfer the risk of a negative shock from the asset side
to the depositor. This aspect of SCB tends to make
them less risky from the depositor side. The paper
also suggests that the need to provide a stable and
competitive return to investors under the constraint
of limited access to liquid instruments may place
pressure on SCB entities to be more conservative.
The SCB players are also said to hold a larger
proportion of their assets in reserve accounts of
central banks than the conventional commercial
banks. Furthermore, the depositors position in the
deal of risk sharing with the bank will render him
towards exercising tight oversight over the banks
management. This too will serve towards less risk
taking on the part of the SCB sector.
The IMF study uses z-scores in order to analyze the
combination of a banks capitalization, profitability
and risk. The higher the z-score the less likely it is
that the bank will run out of capital. Using a definition
where banks with more than $1 billion in assets are
categorized as large banks and those below $1billion
as other, a number of results have been quoted.
REPORT
The following are the key points;
Small Islamic banks tend to be financially stronger
(that is, have higher z-scores) than small and large
commercial banks.
Large commercial banks tend to be financially
stronger than large Islamic banks.
Small Islamic banks tend to be financially stronger
than large Islamic banks.
The paper suggests that the finding could be explained
with reference to the contrast between the high risk
stability in SCB entities as compared with larger SCB
organizations in that it is significantly more complex
for Islamic banks to adjust their credit risk monitoring
system as they become bigger. For example, the profit
share modes used by Islamic banks, are more diverse
and more difficult to standardize than loans used by
commercial banks.
As the scale of the banking operations grow, monitoring
of credit risk becomes rapidly more complex and the
issues of adverse selection and moral hazard might
also emerge. With reference to the Mudaraba type of
transactions this argument has a clear basis. Where
a SCB enters into a large investment under a profit
share structure, it would also invest in ongoing
consultation and exercise oversight of that project
in order to safeguard their investment. The Islamic
bank can even ask to be represented at the Board
Room in order to actively play a role in the decision
making process.
Another finding of the study is that as the presence of
Islamic banks grows in a countrys financial system,
there is no significant impact on the soundness
of other banks. This suggests that Islamic and
commercial banks can coexist in the same system
without substantial crowding out effects through
competition and deteriorating soundness.
Academic limitations
Despite the studys recourse to a large and extensive
amount of cross-country data, its limitations in
describing the ground operations realities cannot be
under-scored. For instance, the finding regarding
co-existence, may be relevant for those fully-fledged
Islamic Banks but the reality in the industry is
that most players are conventional banks that have
Shariah compliant windows. Thus the overlapping
in the overall banking industry is significant in many
respects as the exchange of information and resources
between the conventional and SCB system will not be
hindered by any academic definitions.
The suggestion that Mudaraba instruments may give
a comparative advantage to smaller SCB operators
based on their ability to better monitor their investment
may find broad agreement at first glance. However,
large SCB entities can factor in the additional costs of
oversight and monitoring into their Mudaraba deals
and even leverage on economies of scale to be more
competitive in the market. Thus the argument that
small Islamic banks are more stable than larger banks
is not entirely convincing.
Moreover, larger SCB organizations typically have an
entire range of financial products and services that
go beyond the profit share and mark-up principals.
REPORT
Markets fluctuate, Principles remain
The ability of larger players to issue sukuks
(Shariah compliant bonds) on various types of
transactions including Ijarahs ( Leasing facilities)
to be factored in. The fact that smaller SCB
service providers tend towards a limited portfolio
based on profit share and mark-up is possibly a
consequence of their own financial constraints
that prevent them from engaging in some of the
larger Shariah compliant operations.
The study also takes the aggregated portfolios of
banks and makes sweeping statements regarding
their overall operations with no reference to
specific areas of activity and lending instruments
of either the conventional or SCB entities. The
prevailing economic environment will impact
investors and depositors in different ways that
could perhaps be better analyzed under different
asset classes or industry sectors.
In this way, greater similarity between sectors or
asset classes that contribute to financial stability
may be found across both the conventional and
Islamic banking sector, at any given time period.
Only disentangling the various components of the
overall banking sector that is entwined at many
levels will reveal an accurate account of financial
stability for most countries.
One further point on the IMF study is that
it needs to factor in the impact of regulatory
authorities in any given country as it may be
the key contributing factor. Strong regulatory
institutions with powers to enforce laws serve to
stabilize both conventional and Islamic banking
systems.
In the absence of a healthy supply of such studies,
it is difficult to rate the IMF paper for its
usefulness to the industry. Whilst it is a positive
contribution and serves as food for thought, the
claim that large Islamic banks are less financially
stable than their conventional counterparts or
smaller small Islamic banks needs to be further
researched.
Sources: http://www.vanguardngr.com, The
International Monetary Fund, the Research
Intelligence Unit.
All copyrights reserved. (RIU 2008).
REPORT
When West Meets East
Why Conventional Equity should adapt to Shariah Requirments
Alberto Brugnoni - Interviewed by Roshan Madawela
Alberto Brugnoni is President and Founding Member of the Association for the Development of
Alternative Instruments and Innovative Finance (ASSAIF), an Islamic Finance-tailoring consultancy
based in Italy. ASSAIFs mission is the creation of Islamic products for Middle Eastern investors
and the Muslim community resident in Italy. It is also actively involved in the creation of a
Mediterranean Islamic micro-fnance network.
Q: In your view, what gaps are there in the currently functioning
IFIs around the world in terms of capacity and enforcement?
A: Islamic banks are facing serious bottlenecks with regard to human
resources. They do not have a common/shared approach to human resources
development and are competing with each other for the current staff members
while poaching resources from conventional banks. Islamic banks lack
innovation in product quality and should move from mimicking conventional
products to the development of true Islamic products. Also the issue of
products of ill repute, as tawarruq,
should be addressed once and for
all. Islamic banks should start
focusing on policies (why and
where to invest according to
Islamic values and which model of
society they want to push forward)
and stop concentrating only on the
development of over-complicated
fees-rich techniques that very
often achieve the same goals and
deliver the same products as the
conventional investments. The
question of Shariah-compliant
microfinance to deliver financial
resources to the needy is, in my
opinion, a key issue.
Q: Are the shortcomings of
the currently functioning
IFIs due to the comparative
immaturity of the IF industry
as a whole or are there other
factors involved?
A: I think that IFIs are coming
of age and that after the last 5 to
6 roaring years of tremendous
development where a free-
for-all attitude prevailed, it is
entering a new phase of more
mature reflection. In this
respect an essential role shall
be played by the new generation
INTERVIEW
When West meets East...
of Shariah scholars fully conversant with modern
financial techniques while at the same time sharing
the fundamental values of Islamic finance. They
bear a tremendous responsibility. Civil society and
stakeholders as a whole in Muslim and non-Muslim
countries shall also have their say.
Q: How can Europe, with the most mature
conventional fnance markets lead the way in
this regard?
A: In the coming years the contribution of the EU
to Islamic finance will be fundamental. On the one
hand the IF wave has crossed the Channel and major
European countries like Italy, France and Germany
are entering - though cautiously and at different
levels of involvement - this field. This change in
attitude has been prompted by financial-inclusion
policy considerations with regard to the Muslim
communities living in their respective countries. On
the other hand the wealth of financial know-
how and the extent of public policies that are
the heritage of the Western world can only
increment the ethical added value imbedded
in the IFI. Keep in mind that the Western
consumer markets are more sophisticated
than their MENA counterparts and that
they should act as powerful stimulus to
Islamic finance as a whole. Expansion in the
EU markets will, of course, require proper
banking laws that allow Islamic banks to
market Shariah-compliant products, proper
tax laws that prevent double taxation and a
proper regulatory environment.
Q: Would there be any disadvantages
of relying too much on Europe to lead
the way and would Malaysia be a better
choice given that they were amongst the
frst to develop IF?
A: I think it would be deeply wrong and
damaging to the industry to play the
competition card and to identify absolute
leaders. IF is, by definition, a collective
movement that, if placed in the proper
historical perspective, sees some countries
more advanced than others in specific areas/
products during defined time periods. The
success story will be written only when
IF will be internationally perceived as a
multinational and comprehensive viable
alternative to the existing conventional system and
when this alternative will be available to all members
of society irrespective of their faith or purchasing
power.
Q: Given the current state of play, what are the
issues faced by Islamic banks and fnancial
institutions with regard to standards in their
day-to-day operations?
A: Let me mention just one issue that I think is central:
the corporate governance of the Shariah boards. In
the absence of standards, shareholders tend to appoint
members of their Shariah boards with little regard to
their qualifications. This leads to the use of products
of ill repute and to arbitrage between scholars where
bad but easier to implement Shariah opinions of non-
specialists drive good Shariah opinions of specialists
out of circulation. This is starting to damage the
industry.
INTERVIEW
Q: And in the future, if we assume a positive and
sustained growth scenario, what new issues
might emerge?
A: Two trends will, in my opinion, converge: Islamic
Finance risk-sharing and Private Equity as both
agree on the same approach: they share value, risks
& rewards through partnership. I think that in this
respect conventionally financed businesses in the
West will be restructured to adapt to new Shariah-
compliant funds as a more cost effective route to
capital. Then, of course, the tough questions will come
to the fore and give Islamic finance an opportunity to
really influence the international investment climate.
The following issues should perhaps be addressed:
shall the hyper investment flow in mega real estate
projects/trophy buildings continue? Does it really
serve the needs of a sustainable Islamic society? What
role should the excess GCC liquidity play with regard
to the current structural food crises and the yet-to-
be-achieved food self reliance goal of many Third/
Fourth world countries? Why there are no Kyoto-
protocol compliant investments in the Gulf area
with just one notable exception? Healthcare and
pharmaceuticals are an area where IFIs should
take the lead whereas new sensible approaches
to investments in basic infrastructure and heavy
industry should characterize Islamic investments.
Q: Finally, what were the factors that shaped
your interest in Islamic fnance and what
advice would you give to young people in
Europe and the rest of the world thinking
about a career in IF ?
A: I started my professional life in a major
international finance conglomerate but from the
very beginning I felt that the conventional finance
sector was unable to address many of the rising
issues of contemporary society. More
than ten years ago I started promoting
ethical and microfinance programmes
and thanks to my conventional
background I quickly became a leading
professional figure in this field. As
an Arabist, a long-term visitor to the
Middle East and practitioner of its
culture, Islamic finance has been a
natural output of my previous expertise.
I also deeply believe that ethical finance
is a natural market for Islamic products
in all Western countries.
Whereas a great number of assumptions
are the same, what has been lost in the
ethical finance world is the interest
rate prohibition that has characterized
the Mediaeval Christian world. In this
sense the risk-sharing and riba-free
policies on which the Islamic finance
world hinges will strongly strengthen
the case for Ethical finance in the
West.
Lastly, as ethical and financial inclusion
issues are becoming central to the
world financial agenda I think that is
a safe bet for anyone with an interest
in a financial career to make them
an integral part of their professional
background.
INTERVIEW
Douglas Clark Johnson, CEO and Chief Investment Strategist, Calyx Financial
Interviewed by Asif Hussein
Home-market bias and
supply-driven approach hinders
Islamic Finance
D
ouglas Clark Johnson currently leads the
development and management of Shariah-
compliant products for the New York-
based Calyx Financial which develops, markets, and
manages offshore Shariah-compliant investment
funds for a global clientele. He also supervises the
firms global asset allocation strategies for internal
and client use. He is also International Director
for Muamalat Invest, the asset-management arm of
Bank Muamalat Malaysia, one of the countrys largest
Islamic institutions.
Mr. Johnson is widely published on investment strategy
and fund development topics. His contributions have
been published by Euromoney, as well as in a number
of Islamic finance trade publications. He holds dual
Masters Degrees in Finance and International Affairs
from Columbia University, with an emphasis on Asia
and its capital markets. He also earned a Bachelors
Degree in Finance from Georgetown University, and
studied at Sophia University in Tokyo, Japan.
Q: What prompted you to enter Islamic fund
management?
A: The evolution of our business really can be
attributed to three factors. First, we were alarmed
by the serious misunderstandings that exist in the
West about the Islamic world, even among educated
professionals. Second, we identified an industry gap
for a firm to focus on institutional and institutional-
scale investment efforts, primarily in non-traditional
markets. And perhaps most importantly, its what our
clients in the Middle East and Southeast Asia were
asking us to do. This last point is a testimony to our
longstanding ties to both regions.
On a personal note, this has been one of the most
rewarding journeys of my 20-plus years in the
asset management business. It goes without saying
that I have the support and commitment of some
amazing colleagues. But surprisingly, the industry
it self has been embracing of our work in ways that
the conventional business has long since left behind.
Whether it is in product design or sales strategy,
countless peopleregulators and service providers
among themdeserve credit for what weve
accomplished to date.
INTERVIEW
Q: How would you evaluate the performance
of Calyx Financial in the Shariah-compliant
fund management sector?
Talking about track records out of context can be
misleading, so suffice it to say that were confident
in our ability to bring Wall Street expertise to the
Islamic world. Other ways of evaluating performance
might include our ability to make a contribution to the
industry though our research-based commentaries, as
well as our ability to build relationships that span a
wealth of innovative opportunities for our clients.
Im pleased that selected US colleagues have now
come to us in partnership for co-branded Shariah-
compliant funds and that our friends at Bank
Muamalat Malaysia engage us in building their own
business. Perhaps the best performance evaluation is
the number of unsolicited queries on partnerships and
joint business initiatives weve begun to receive. Its a
kaleidoscope of activity that engages us twenty-four
hours a day.
Q: In which kind of investment funds do you
invest monies?
Our marquee fund is a Bahrain-authorized Islamic
fund-of-funds program. We describe it as double
Shariah because our own Shariah scholars help us
to supervise investments in Shariah-compliant sub-
funds. While primarily long-only equity, our fund
does allocate to other asset classes, such as leasing, to
help reduce overall portfolio volatility. Its objective is
to provide a core, global holding for investors looking
for low-risk, stable-return alternatives.
The work we did in creating the fund-of-funds program
has identified gaps in the Islamic fund universe, which
we hope to help fill over time. Interestingly enough,
many of our second-generation funds in development
focus on Asia, including Indonesian infrastructure and
Indian private-equity. Id like the industry to think
of us as offering innovativebut not controversial
investment products. We aim to offer Islamic funds
that are competitive with the conventional universe
on pricing, performance, and pedigree.
Q: Any developments in the pipeline?
My longstanding work as an investment strategist
means that Im a visionary at heart, but sometimes
have to reign in my enthusiasm. We dont measure
success by size alonecertainly were not looking
to be one of the biggest players in the business. My
colleagues and I came out of those types of institutions.
Rather, we aim to provide a high degree of service to
a select group of institutions and institutional-scale
clients. I believe our financial return to our own staff
and venture backers will reflect that commitment
over time.
More to the point, if we can maintain our momentum,
our hope is to open a small marketing and compliance
office in Bahrain later this year to be as responsive as
possible to our Gulf friends. Well pair that with added
capabilities in Kuala Lumpur, given our burgeoning
ties to Southeast Asia. Further, we may take advantage
of cost efficiencies to open an analytical function in
Colombo. Sri Lanka is within easy reach of all of our
key markets.
Q: How would you assess the growth of the
Islamic fund management sector over the
past few years and what do you expect of the
future?
The industryto the extent that you can define it
has been opportunistic. Youd expect that in a high
growth, emerging sector. In other words, firms have
been asking, What can we do and how fast can we
do it? Unfortunately, that has been largely a supply-
driven approach, which has created far too many
investment products that look similar to each other.
The framework is shifting, though, to more client-
responsive developments. A home-market bias among
most Islamic investors meanwhile continues to prevent
full globalization of the industry.
The industry does have the benefit of using
developments within the conventional space as a case
study for many of its initiatives. For starters, we see
a pairing of Islamic wealth management and asset
management activities. Distribution and product
development go hand-in-hand.
Yet the focus on transaction business among the major
Islamic players, such as sukuk and project finance deal
flow, has yet to evolve to a focus on business segments
driven by sustainable income streams.
The obvious candidates are those supported by the
wealth/asset management nexus. We also see more
focus on investment strategy and portfolio analytics
that are uniquely relevant to the Islamic investor in
this context.
INTERVIEW
What hinders Islamic Finance...
By MKV Nair - Researcher, Monash University Malaysia
Subprime Mortgage Crisis and
Islamic Finance
Introduction
The subprime mortgage crisis, popularly known as
the mortgage mess or mortgage meltdown, came
to the worlds attention when a surge in US home
foreclosures (repossessions) started in 2006 and
spiralled seemingly out of control in 2007 and 2008.
It triggered a national financial crisis that went global
within two years. It has caused billions of dollars
losses to banks and financial institutions that were
involved in subprime lending. Besides, this crisis has
plummeted stock markets across the globe.
There is a substantial amount of criticism on the lack
of regulatory monitoring and excessive interest rates
in the conventional banking and financing system
that contributed to the subprime mortgage crisis.
What is prime and subprime mortgage?
The main difference between prime and subprime
mortgages in conventional banking lies in the risk
profile of the borrower and the interest rates charged
ANALYSIS
on them. Subprime mortgages are loans extended to
high risk borrowers to purchase real estate property.
Specifically, lenders differentiate among mortgage
applicants by using loan risk grades based on factors
such as their credit history, previous loan defaults or
bankruptcy filings, debt-to-income (DTI) ratios, and
the level of documentation provided by applicants to
verify their income.
Next, the lenders determine interest rates of a
mortgage in a given risk grade based on the
borrowers credit risk score, for example, the Fair,
Isaac and Company (FICO) score, and the size of the
down payment. Eligible borrowers for prime loans
have a FICO credit score above 620, a debt-to-income
ratio (DTI) not greater than 55 percent (meaning that
not more than 55 percent of their net income pays for
housing and other debt) and a combined loan-to-value
(LTV) ratio of 90 percent, meaning that the borrower
has to pay a minimum of 10 percent downpayment.
Lenders charge the prevailing market interest rates
to prime loan borrowers with lower credit risks.
Generally, subprime lending encompasses a variety
of credit instruments including subprime mortgages,
subprime car loans and subprime credit cards, among
others.
Causes of subprime mortgage crisis
Excessive interest rates led to subprime
mortgage crisis
There are many theories as to what led to the subprime
mortgage into a crisis. Many experts and economists
believe it came about through the combination of a
number of factors in which subprime lending played
a major part. One of the main factors is the interest
rates charged on the subprime mortgage loans.
Historically low interest rates were charged in the US
for mortgage loans during the initial years of 2000.
This was mainly to boost the American economy
which was slowing down due to the Dot.Com crash
and the September 11 attacks. The Federal Reserve
Board (Fed) reduced short-term interest rates from
about 6.5 percent to 1 percent. Former Chairman of
the Fed, Alan Greenspan, admitted in 2007 that the
housing bubble was fundamentally engendered by
the decline in real long-term interest rates.
Many subprime mortgages were Adjustable Rate
Mortgages (ARMs) in which the interest rates are
subjected to revisions when the market interest
rates increase. Besides that an estimated one-third
of ARMs originating between 2004 and 2006 had
teaser rates below 4 percent. A teaser rate is
very low but for a temporary period only and would
increase significantly after the initial honeymoon
period. These increases can sometimes be doubling
the monthly repayment amount. The subprime
borrowers were literally trapped in this tricky interest
rate arrangement. Initially the borrowers found the
interest rates to be well affordable for their income
level, but when the ARMs were revised to higher rates
the borrowers had no other choice than to default in
their repayments.
This situation certainly could not have happened in the
Islamic financing system. Islamic finance is defined
as a financial system based on Islamic law known
as Shariah. Islamic finance is limited to financial
relationships involving entrepreneurial investment
subject to the moral prohibition of (i) interest earnings
or usury (riba) on money lending, (ii) haram (sinful
activity), such as direct or indirect association with
lines of businesses involving alcohol, pork products,
firearms, tobacco, and vulgar entertainment, (iii)
speculation, betting, and gambling (maisir), including
the speculative trade or exchange of money for
debt without an underlying asset transfer, (iv) the
trading of the same object between buyer and seller
(bay al inah), as well as (v) preventable uncertainty
(gharar) such as all financial derivative instruments,
forwarding contracts, and future agreements.
As opposed to conventional finance, where interest
represents the contractible cost for funds tied to the
amount of principal over a lending period, the central
tenet of the Islamic financial system is the prohibition
of riba (the interest earnings), meaning an excess
which is interpreted as any unjustifiable increase of
capital through loans. The general consensus among
Islamic scholars is that riba covers not only usury but
also the charging of interest and any positive, fixed
predetermined rate of return that are guaranteed
regardless of the performance of an investment.
Since only interest-free forms of finance are considered
permissible in Islamic finance, financial relationships
between financiers and borrowers are governed by
shared business risk (and returns) from investment in
lawful activities (halal). The participants in banking
transactions are considered business partners who
jointly bear the risks and profits. The transfer of
ANALYSIS
Subprime Crisis...
funds from clients to the bank (depositing) is based
on revenue-sharing usually calculated ex post on
a monthly basis and the transfer of funds from the
bank to the clients is based on profit-sharing (lending,
financing), either at a mutually agreed-upon ratio
mudarabah or at a mutually agreed-upon fixed
rate. The word mudarabah means a profit sharing
partnership in which one contributes the capital
(bank) and the other (customer) manages the project.
Islamic banks finance only real transactions with
underlying assets. Speculative investments such as
margin trading and derivatives transactions are
prohibited. Lending, or financing, must be backed
by collateral. Collateral-free lending would normally
be considered as containing a speculative element
or moral hazard. Similarly, to avoid speculation and
moral hazard, only investors with sufficient level of
income can qualify for financing.
Islamic law does not object to payment for the use of
an asset, and the earning of profits or returns from
assets are indeed encouraged as long as both lender
and borrower share the investment risk together.
Profits must not be guaranteed based on assumption
and can only accrue if the investment itself yields
income. Any financial transaction under Islamic law
assigns to investors clearly identifiable rights and
obligations for which they are entitled to receive
commensurate return. While the elimination of
interest is fundamental to Islamic finance, Shariah
compliant investment behaviour also aims to eliminate
exploitation pursuant to Islamic law.
The emergence of securitization led to
subprime mortgage crisis
The emergence of innovative lenders who are the
non-banking and non government agency lenders
is another factor that has caused the subprime
mortgage crisis. These lenders are not regulated as
the traditional banks. They invented new methods
of mortgage lending through securitization. The
securitization can be defined as a structured finance
process in which assets, receivables or financial
instruments are acquired, classified into pools and
offered as collateral for third-party investment. In
this new mortgage process the banks and lending
institution lend money to home a buyer from extended
funding by selling the mortgage documents to third
party investors in the security and bond markets
through issuers as Mortgage Backed Securities
(MBSs) or as Collateralized Debt Obligations (CDOs).
The securitization of mortgage loans is a complex and
multistage activity that involves a number of different
players along the entire process.
Shariah principles prohibit selling a debt against a
debt. In Islamic financing the permissibility of risky
capital investment without explicit interest earning
has spawned several finance techniques under Islamic
law. There are three basic forms of Islamic financing
methods for both investment and trade finance: (i)
synthetic loans (debt-based) through a sale-repurchase
agreement or back-to-back sale of borrower or third
party-held assets, (ii) lease contracts (asset-based)
through a sale-leaseback agreement (operating lease)
or the lease of third-party acquired assets with
purchase obligation components (financing lease), and
(iii) profit-sharing contracts
(equity-based) of future assets.
As opposed to equity-based
contracts, both debt-based
and asset-based contracts
are initiated by a temporary
transfer of existing assets from
the borrower to the lender or
the acquisition of third-party
assets by the lender on behalf
of the borrower.
However, this does not mean
that securitization is totally
prohibited in the Islamic
financing system. There is
permissible securitization
in Islamic law, where the
ownership of an asset is
effectively divided into pieces
and distributed in a manner
similar to shares in a mutual
fund. This is distinct from an
Islamically non-permissible
securitization of cash flows
whereby investors might buy
shares of interest, principal,
both or margin as compared to what is based on
markup interest in the conventional financing system.
In the recent developments with Freddie Mac, an
ijara wa iqtina (mean leasing and acquisition and
it is variably called ijara muntahi bitamlik, leasing
ending in ownership or lease to own) process has
been securitized. In this case, the obligations of
the lessee have been structured into a note by the
holder and sold to Freddie Mac and the holder of the
ANALYSIS
Subprime Crisis...
property has granted a mortgage to secure the note.
If in the Islamic perspective, the note represents an
aspect of property ownership, then the relationship is
permissible.
Other factors that led to subprime mortgage
crisis
There are two other factors that led mortgage
lending into a crisis. They are the act of predatory
lending and predatory borrowing. Predatory lending
is the practice of a lender deceptively convincing
borrowers to agree to unfair and abusive loan terms,
or systematically violating those terms in ways that
make it difficult for the borrower to defend against.
Other types of lending sometimes also referred to as
predatory include payday loans, credit cards or other
forms of consumer debt and overdraft loans, when
the interest rates are considered unreasonably high.
In predatory lending the lenders charge excessive
interest rates, prepayment penalties for refinancing
an existing mortgage and other forms of charging
excessive fees by mortgaging the same loan many
times. Predatory borrowing on the other hand is a
fraudulent practice of the borrower who provides
falsified income statements or lies about his income to
be many times higher than the actual amount. These
actions are totally prohibited in Islamic financing
law. Islamic economic models emphasize fairness.
This is reflected in the requirement that everyone
involved in a transaction makes informed decisions
and is not misled or cheated. On a macro-economic
level, Islamic models aim at social justice and the
economic prosperity of the whole community. Islam
encourages and promotes the right of individuals to
pursue personal economic wellbeing, but makes a
clear distinction between what commercial activities
are allowed and what are forbidden. For example,
transactions involving gambling and other socially
detrimental activities are strictly prohibited.
Conclusion
While the global economic system is being
rattled by the US subprime mortgage crisis, the
Islamic finance model may be the answer to this
persistent economic turmoil. The current global
economic crisis has opened many windows of
opportunities for Islamic finance. This crisis
is seen as a big opportunity for Islamic finance
as it has the capacity and capability to bring
stability to the economy. This global crisis
which caused colossal financial loses running
in billions of dollars, would have not occurred
if the Islamic principles regarding mortgage
backed securities (MBSs) and collateralized
debt obligations (CDOs) were in vogue in the
international financial market. Islamic bonds
(sukuks), carrying unique structure features,
cannot fall foul of a crisis such as subprime
mortgage crisis. Subprime mortgages are
backed by dubiously rated collateralized debt
packages which subsequently precipitated a
global credit crunch.
It is the right time for the Islamic banking
industry to present solutions to the global
economic community in the wake of the crisis.
The devastating subprime mortgage crisis
would technically be unthinkable in the Islamic capital
markets sector because it would be against Shariah
principles to sell a debt against a debt. There is a very
simple rule in Islamic trade, which clearly says that
you cannot sell unless you possess. The present crisis
has seen trillions of dollars trading without backing
of assets. If such transactions followed the Islamic
finance models it would have easily prevented the
current economic crisis.
ANALYSIS
Subprime Crisis...
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MOHAMMED ROBBANI - INSIF The Institute of Islamic Finance London
THE SUBTLE NATURE OF RIBA
It is a common practice to equate the English word Interest with the
ancient Arabic word Riba. However, this simple correlation disregards
the subtle nature of Riba
THE TERMS INTEREST AND RIBA ARE NOT ENTIRELY SYNONYMOUS

The meaning & definition of Interest appropriate for our purposes is the one
in common use, which happens to be a surcharge on the repayment of debt
(borrowed money), rent paid for the use of money, The fee charged by a
lender to a borrower for the use of borrowed money, etc.
That is: a monetary charge applied for the use of money (the surcharge, rent
or fee is money exchanged for more money in lieu of foregoing the use of the
money by the lender and is stipulated in the lending agreement/contract either
before or after the commencement of the loan).
The meaning & definition of Riba shows that a monetary charge applied for
the use of money (i.e. Interest) falls within the sphere of Riba and therefore, the
payment and receipt of Interest is forbidden.
However, although Interest is
Riba, Riba is not restricted to just
Interest and has a much wider
sphere. Therefore, the terms
Riba and Interest are not entirely
synonymous, and although they
are both forbidden, we should
cease confusing one for the other
as they both have other disparate
meanings.
What is required here and in
general is for us to understand
the proper definitions of both
Arabic and English words and
make clear the differentiations
between the words and not
confuse them. This will greatly
help in understanding the subject
of Riba and many other topics
related to Islamic law.
RIBA IS NOT JUST USURY
Usury is simply the rate of
Interest which the law of the land
has deemed to be excessive (and
thus in some countries, illegal)
therefore it is Riba.
However, some people believe
that because extremely low rates
of Interest are not usurious,
therefore this low-rate Interest
is not Riba. This is a fallacious
argument because even a minute
rate of interest is still a monetary
charge for the use of money and
is an excess on top of the loan
principal/debt obligation. This
clearly makes it Ribawi.
IN-DEPTH
IS COMPENSATION FOR INFLATION RIBA?
Inflation, in this context, is the depreciation of the
purchasing power of a specific amount of money:
measured at two (start & end) points of time (in the
same currency and economic/regulatory zone) by
purchasing the SAME products of the same quality
and inherent (non-monetary) value at both time
points.
Some amongst the Fuqaha argue that a lender lends
money knowing that there could be an inflationary
loss, so why should they be compensated for Inflation?
A few maintain the view that any payments to
compensate for inflation is Riba.
Inflationary loss: the argument that lenders know that
they could suffer inflationary loss and thus should not
be compensated is negated if the lender agrees to lend
on the basis that the full return of his principal must
include compensation for any inflationary loss. This
leads to our second point.
The view that compensation for inflation is Riba: a
very simple definition of Riba is that it is an excess
over (on top of) the loan principal. Compensation for
inflation is merely making up the loan principal to its
original value (when it was lent) and is not an excess
over it. Thus, compensation for inflation is not Riba.
The contention here is that by ascertaining the true
economic value of a specific amount of money at the
start and end time points, we can be fair and just when
returning any money borrowed at the start point. If
at the end point (when repaying the loan principal),
there is a reduction of the purchasing power of the
amount of money borrowed at the start point, then
the true economic value of the amount borrowed at
the start point is also reduced at the end point.
Thus, we should make-up this deficit of both
purchasing power and economic value when returning
the amount borrowed/owed to the lender/creditor so
that they receive EXACTLY (and not anything more
or less than) what they lent - otherwise the lender/
creditor will suffer an unjust loss.
Consider the following: what if the loan payback time
is not adhered to by the borrower and becomes an
extraordinarily long period or if the economic situation
of the country is such that it results in rapid increases
in prices of goods and/or a forced devaluation of the
national currency what then?
For instance (an extreme example): a person lends
10 to another person for 1 month, 100 years ago -
but the borrower did not repay that money. Now, 100
years later, one of the lenders descendents finds proof
of the loan and asks one of the borrowers descendents
to pay back the loan (who agrees to do so).
Is it fair and justified for the borrowers descendent to
repay just 10 or should he consider the fact that the
value of 10, 100 years ago is actually the same as,
say 1,000 at present time?
In that case, should he repay 10 or 1,000? Should
the lenders descendent accept a potential (real) loss
of 900? Remember, he is not asking for any profits
(an increase on the loan principal), just that the lost
value over time of the loan principal is made up. To
reiterate: a monetary charge for the use of money (i.e.
Interest) is not being asked for - simply that the full
value of the original money is returned.
Now, if the value of the loan principal itself depreciates
over time, then asking the borrower to make-up for
this depreciation ONLY (i.e. as long as the lender
does not profit from this compensation) is fair and
justified, but anything over and above the depreciatory
compensation amount is Riba and thus forbidden.
In the above example, as this was not a trade
transaction (therefore taking a risk in losing his [the
lenders] money was not part of the transaction), but
a short-term loan transaction (which became severely
delinquent), the lender is entitled to get his full
principal back (in terms of the purchasing power and
economic value). The contention here is that refusing
to make-up the lenders loss is actually a form of Zulm
in itself as it denies the lender the return of his full
principal.
Some people accept the above argument but insist
on calling this compensation for the reduction of
purchasing power Nominal Interest. This is incorrect
and we should cease calling it by this name.
Nominal Interest does not take into account the
effects of inflation, but it is still an additional charge
on a loan principal/debt obligation (i.e. direct Interest)
and thus it is forbidden. Whereas Real Interest does
take into account the effects of inflation [Real Interest
= Nominal Interest - Inflation], and it is also an
additional charge on a loan principal/debt obligation
but with inflation taken into account (i.e. it is inflation
adjusted Interest) and thus it is also forbidden.
IN-DEPTH
Subtle nature of riba...
Only the inflation component is not forbidden because
it is not an additional (an excess or an increase) over
and above the loan principal or the debt obligation.
To avoid any such confusion, we should compensate
for the reduction of purchasing power (of a given sum
of money over a given period of time) caused by the
inflation of prices within an agreed economic &
regulatory zone, on a completely independent and
separate basis when writing lending/borrowing
agreements and not include it with any other
agreements.
We should also give this compensation an independent
name which will not give the impression that it is
linked to Interest.
COMPONENTS OF INTEREST
Some people break-down Interest into various
components and say that this part is Halal and that
part is Halal and that only this small particular part
is probably Riba. They use this complex and detailed
argument to assert the view that the entire Interest
charge cannot be therefore, considered Ribawi. We
should accept this argument to a certain extent.
A modern day Interest charge has included within it a
profit margin for the lender and no matter how small
this profit margin is - it is this that is regarded as pure
Riba (see the above). However, it is true that a typical
Interest charge is composed of several components
and that individually and separately, almost all of
them may be allowed (Halal or Mubah). However, the
problem arises when all of these allowed components
are combined together as a single charge, because
then, the payer does not know how much he is
paying for what component (how much is legitimate
administration costs? How much is compensation for
inflation and on what basis is this calculated?).
As a consequence, the entire composition becomes
subject to extreme Gharar and may be considered
invalid. The way to avoid this Gharar is to separate
out and to have individually negotiated agreements
for each allowed component.
THE COMMIXTURE EFFECT
Furthermore, if these allowed components are mixed
with the disallowed profit margin component then
the COMMIXTURE EFFECT comes into play,
where:
If anything that is Haraam is mixed (even by an
extremely minute quantity) with anything that is
Halal (or even Mubah, neutral) - then this renders the
entire thing Haraam.
This applies to the modern day Interest charge
because the allowed aspects of it are mixed with the
Ribawi aspects thus making the entire Interest
charge Haraam. Once this commixture effect is fully
appreciated, then the argument that Interest=Riba
can be seen in its proper context.
Without going too much into this argument, we can
use an analogy to further illustrate this point.
Wine is forbidden in its entirety because it intoxicates.
However, its constituents are Halal. Wine is made
with grapes, water and sugar. Individually, none of
the ingredients are specifically forbidden - but the end
result (i.e. an intoxicating drink) is forbidden because
it is now something that intoxicates when drunk
(even if it doesnt intoxicate, since it has the power to
intoxicate then even a drop of it is just as forbidden
as a whole bottle). Similarly, an Interest charge is
forbidden in its entirety because some integral parts
of it are equal to Riba.
However, as stated, most of the constituents of
Interest (such as the creditors operational costs,
inflation adjustments, etc) are individually and
separately allowed - but the end result (i.e. a higher
value stipulated as a pre-condition to the agreement
to exchange or subsequent to the conclusion of the
exchange, i.e. an Interest charge) is forbidden because
of the inclusion of one component the direct profit
a creditor charges as compensation for it not having
the use of the money.
If the direct profit component was removed the
Interest charge itself would not be direct Riba.
However, it still cannot be demanded by the creditor,
but requested with full & proper explanation as to why
the additional charge is justified (in Shariah). If the
borrower does not accept the reasons the creditor
can opt not to lend to the borrower.
Thus, we have to look at the constituents and also the
end product of any given transaction - and not take
something out of its contextual environment - before
making judgements on it.
Hence, breaking down Interest to Halal components
and saying that as a result, Interest itself is Halal is
IN-DEPTH
akin to saying that since grapes, water and sugar
are Halal wine itself therefore, is also Halal (thus
exposing the fallacy of such arguments).
This point nullifies most arguments against the
Interest=Riba position as the Interest that is Riba is
not things such as operational costs, compensation for
Inflation, etc but simply the direct profit a creditor
charges as compensation for not having the use of
the money. This compensation is usually stipulated/
demanded by the creditor as a pre-condition to
the agreement to exchange or subsequent to the
conclusion of the exchange thus bringing Interest
into the sphere of Riba.
RIBA IN NON-MUSLIM COUNTRIES AND BETWEEN
MUSLIMS & NON-MUSLIMS
There is an argument from some people that it is
permissible to engage in Ribawi activities if it is
between Muslims and Non-Muslims and/or if done
so in a non-Muslim country (Dar Al-Harb). However,
this argument is based primarily on activities of the
Prophets (pbuh) uncle, Abbas ibn Abd al-Muttalib.
The contention is that after he became a Muslim,
Al-Abbas remained in Makkah (which, at that time,
was still under the non-Muslims) and engaged in
Ribawi transaction with some of the non-Muslims of
Makkah.
Even after the prohibition against Riba became
effective, Al-Abbas Ribawi transitions remained in
force. It was only during the final sermon did the
Prophet cancel these Ribawi transactions.
However, this argument is considered as factually
incorrect. It has been counter-argued by some
prominent scholars that Al-Abbas did not deal in Riba
after he became a Muslim, but of course, dealt with it
before.
Mufti Taqi Usmani stated:
Before embracing Islam he [Al-Abbas] used to
advance loans on the basis of interest and his debtors
owed him huge amounts. It seems that after the
conquest of Makkah he migrated to Madinah and
could not settle his transactions with his debtors.
Therefore, when he travelled for Hajj along with Holy
Prophet, Sall-Allahu alayhi wa sallam, it was the first
occasion when he could settle his transactions, hence,
the Holy Prophet, Sall-Allahu alayhi wa sallam,
declared that the whole amount of riba payable to his
uncle Abbas, Radi-Allahu anhu, was void and no more
payable.
The words first riba occurring in this declaration
do not mean that no riba was declared void before it.
What it means is simply that this is the first amount
of riba which is being declared as void at that occasion
of the last sermon
Thus, according to Mufti Usmani, the Ribawi
transactions Al-Abbas entered into was before he
IN-DEPTH
became a Muslim. This point is also made apparent
when we look at what the Prophet actually said
(admittedly, the translation may be imperfect): All of
the Riba of jahiliyya is annulled. The first Riba that I
annul is our Riba, that accruing to Abbas ibn Abd al-
Muttalib [the Prophets uncle]; it is being cancelled
completely.
When we look at this statement closely, we see
that the Prophet is cancelling all Riba transactions
(starting with that of Al-Abbas) that occurred during
the period of ignorance (in general and of Al-Abbas) -
not after the establishment of Islam. This is a critical
point.
Anyway, even if we do not agree with this argument
it must be agreed that there is serious scholarly
disagreement on this matter, thus we should not use
the Al-Abbas argument to allow Ribawi transactions
between Muslims and Non-Muslims and/or in a non-
Muslim country (Dar Al-Harb).
The Riba is allowed in a Dar Al-Harb argument
has two other dimensions:
[1] It is contended that since the final verses of
the Quran relating to the prohibition of Riba were
revealed after the battles of Taif and Hunayn, the
final prohibition of Riba only came into force after
these lands entered under the Muslim state through
their allegiance and acceptance of Islam. Therefore,
Riba was allowed between Dar A-Islam and Dar Al-
Harb up until the Dar Al-Harb became Dar Al-Islam
(at which point the Riba prohibition came into force).
Hence, it is OK to engage in Ribawi transactions
even now with countries that are not part of Dar Al-
Islam.
This argument is flawed as it is counter-argued by
some prominent scholars that since Riba had become
an essential constituent of the Arabian society, an
immediate order of prohibition right from the start
would have created immense social and economic
problems and would have impeded the growth of
Islam.
God therefore, adopted a gradual way to eliminate it
by starting with discouragement and condemnation
of Riba (verse 39 of Surat Ar-Rum) to the final, clear
& strong prohibition (verses 275 to 279 of Surat Al-
Baqarah).
Mufti Usmani points out that:
...It was a time when large number of Arab tribes were
entering the fold of Islam throughout the peninsula.
The practice of riba was rampant among them and it
was apprehended that they would continue claiming
the amounts of usury from one another [unless a
strong & clear prohibition was made]therefore, the
Holy Prophet, Sall-Allahu alayhi wa sallam [during
the last sermon], deemed it fit to announce not only
the [complete] prohibition of riba but also that all the
previous transactions of riba will no more be honored.
It was in this context that he declared the amounts of
riba payable to his uncle Abbas ibn Abdul Muttalib,
Radi-Allahu anhu, as void.
If we look at the verses prohibiting Al-Khamr for
example, they become more forceful as Islam became
more established - as newly reverted Muslims may
have found it difficult to suddenly give up something
they loved so much. The same principle was applied
to Riba.
[2] It is also contended that some scholars of the
Hanafi school stated that since a Muslim has entered
or was living in a non-Muslim country with a promise
of interacting safely and with civility, it is then only
permissible for him to ...obtain their property by
means that they deem lawful..... Textual constraints
would then only allow dealing in Riba, as opposed to
selling alcohol or pork for example.
There are 2 problems here. 1) although Muslims
can lawfully seize the property of the vanquished,
the property has to be that which in itself is allowed
for Muslims. Now, if we say that Riba is allowed for
Muslims under certain circumstances, then we need
to provide the explicit evidence for it. Since there are
no such evidence but only indirect inferences made
from the primary sources, this becomes a problem 2)
as given the choice between explicit evidence (Quran
and many Sahih Hadiths) in support of the clear
universal prohibition of Riba versus indirect, inferred
evidence for its permissibility in a Dar Al-Harb, the
onus is on us to go with the explicit evidence.
Furthermore, there are no real textual constraints
that allow dealing in Riba in the scenarios described
(if there were, proponents of such arguments would
have proffered them by now).
IN-DEPTH
NO RIBA ON COMMERCIAL LOANS ?
There is an argument that commercial loans are
not deemed to be loans from an Islamic perspective
and that Riba is actually applicable to personal
(consumptive) loans only. The argument continues
that the definition of a loan according to the Fuqaha
is charitable, and it is obvious that commercial
banks have no charitable intent. Therefore, such
loans are beyond the sphere of Riba. The counter-
argument against this view is that if we take a look
at verse 39 of Surah Al-Rum:
Whatever you give of Riba bearing loans, so that
your amount increases in the wealth of others,
does not increase in the sight of God
Then, (even if the original Arabic does not have
the words Qard or Salaf in it) we can see from
this verse that Riba applied to personal as well
as commercial loans. How? well, Makkah was a
bustling trading centre and many different types
of people came to trade in its markets.
Therefore, it is inconceivable that the Arabs
(particularly in Makkah) engaged in only personal
loans and did not have the idea of lending each
other money to enable each other to carry out
business transactions.
Hence, it is most likely that the term the wealth
of others stated by God, is a direct reference to
business and trading activities of others because
this was how wealth was generated in ancient
Arabia (high salaried positions were virtually
non-existent).
CONCLUSION
The subtle nature of Riba means that the Interest
Riba equation is not a simple subject and the
arguments provided above are a brief glimpse into
this complex arena and are not exhaustive (there
may be many more areas of research).
However, thus far, one thing has stood the test of
time and the various assaults on its foundations
and that is no matter how one tries to find faults
in the logic of the argument, the fact remains that
after everything is said and done it is evident
that modern day Interest is akin to Riba and thus
it is forbidden by God Almighty for all of mankind
(and Jinns).
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BOOK REVIEW
Introduction to Islamic
Banking & Finance
by Brian Ketell (2008)
This comprehensive and yet
concise handbook is a must-read
for all those seeking to carve a
niche for themselves in the Islamic
banking and fnance industry. This
invaluable work serves as both
a frst-read for new entrants to
the industry, as well as a handy
reference book for practitioners.
The author should be
congratulated for this well written
work which incorporates his
several years of experience in
both conventional and Islamic
fnance, thereby enabling him to
explain, in fairly simple language,
the fundamental points of
convergence and divergence
between Islamic and conventional
interest-based fnance. This is
all the more important since
many banking professionals still
entertain the rather absurd notion
that Islamic fnance is the same
thing as mainstream, interest-
based fnance and that only the
name and form difers. As pointed
out by the author, this stereotyped
image is all too prevalent in the
banking world and hence the need
to debunk such assertions remains
stronger than ever before.
To start with the author gives a
brief history of Islamic banking and
fnance and draws our attention
to the fact that the situation in
the Christian world remained
very similar during the mediaeval
period when usury was banned
and only the Jews were permitted
to engage in usurious activities. He
then goes on to give his readership
the basic principles underlying
Islamic banks and why they difer
from conventional banks.
As succinctly pointed out by the
author the structure of an Islamic
bank is radically diferent from
its conventional counterpart. A
conventional bank is primarily
a borrower of funds on the one
hand and a lender on the other. An
Islamic bank, on the other hand,
is a partner with its depositors as
well as with entrepreneurs, sharing
proft and loss on both sides of the
balance sheet. Another distinction
is that a conventional bank would
not stop charging interest even if
the deployment of its capital fails
to bear proft for the entrepreneur,
whereas an Islamic bank cannot
claim proft if the outcome is a
genuine loss.
In the following pages the author
proceeds to outline the legal basis
for Islamic banking, based as it is on
the Shariah and Islamic law before
proceeding to defne what Islamic
banking is all about including
its emphasis on Proft and Loss
Sharing and the rationale for
banning interest. He then proceeds
to deal in great detail with the
various modes of Islamic fnance
including Murabaha, Mudaraba,
Musharaka, Ijara, Istisnaa , Salam
before proceeding to cover Takaful
or Islamic Insurance.
What is most commendable is the
authors detailed description of
each area he covers, including the
defnition of a particular product,
what makes it Shariah-compliant,
Shariah rules concerning it, the
practicalities of implementing
it, practical examples of its
application and basic rules and
other issues relating to the area
covered.
As commendable are the detailed
appendices appended to the work
including Worlds 100 largest
Islamic Banks (including ranking,
country, assets, fnancing, deposits,
shareholder equity, operating
income, operating expenses and
net proft after tax and zakat)
and Top 500 Islamic Financial
Institutions (including type of
institution, whether fully Islamic
or Window, Shariah-compliant
assets, pre-tax profts and return
on assets).
On the whole, a very valuable
contribution to the Islamic
banking and fnance industry
that should considerably enhance
the professionalism of those
practitioners fortunate enough to
lay their hands on a copy.
Upcoming Islamic Finance
Events 2008
August
11th-13th August MIF 2008 Issuers & Investors
Forum at Mandarin Oriental, Kuala Lumpur, Malaysia,
organized by Islamic Finance Events
25th August 2nd International Conference
& Exhibition on Islamic Banking & Finance at
Aiwan-e-Iqbal, Lahore, Pakistan, organized by Al-
Huda Center of Islamic Banking & Economics.
25th-26th August Islamic Financial Markets,
Indonesia, organized by Marcus Evans
25th-28th August - Islamic Finance & Investment
World 2008 at Sandton Convention Centre,
Johanesburg, South Africa, organized by Terrapinn
October
7th-8th October Islamic Finance Congress at Melia
White House, London, organized by IIR Conference
14th October Middle East Hedge Funds 2008
at Hotel Mandarin Oriental du Rhone, Geneva,
Switzerland, organized by Jetfn Events
15th- 16th October Middle East Investors
Summit 2008 at Emirates Towers Hotel, Dubai, UAE,
organized by Worldwide Business Research
20th- 21st October Islamic Real Estate Investment,
Riyadh, Saudi Arabia, organized by Naseeba
21st October Islamic Private Equity, Dechert LLP,
UK, organized by ICG Events
November
2nd 4th November Islamic Funds World 2008 at
Shangri-La, Dubai, UAE, organized by Terrapinn
3rd November The World Islamic Infrastructure
Finance Conference. Doha, Qatar, organized by
MEGA
4th-5th November 2nd Annual Islamic Capital
Markets at Radisson Mayfair, London, organized by
IFR Conferences
December
1st-3rd December The World Islamic Banking
Conference, Bahrain, organized by MEGA
14th-18th December Debt Capital Markets
Summit in Dubai organized by IIR Middle East
SUKUK Some Basic Facts
S
ukuk is a form of Shariah-compliant securitization which is
gaining wide acceptance not only in Muslim states, but also
in largely non-Muslim countries where it is seen as a very
promising instrument to mobilize funds for economic development
by government or public-related institutions.
Sukuk could be said to have evolved due to the needs of Islamic
Banks and Financial institutions to diversify their investments
and for meeting their immediate liquidity requirements. The
evolution of Sukuk and its phenomenal growth over the past
few years as a secondary market tool could be said to have been
facilitated by the fact that it is based on real assets and that it
could be bought and sold.
Sukuk is an Arabic term and is the plural of
sakk which means a certificate This mode
of financing involves the securitization
of a tangible asset so that investors could
share in its profits and risks for which
purpose a certificate vesting ownership in
such investors is issued. This would entitle
investors to a portion of the income in
proportion to their investment. Although
often termed Islamic bonds Sukuk differs
from a conventional bond in that there
should be a true sale where the asset that has
been sold should not remain in the books of
the seller and should be transferred to the
purchaser.
Sukuk is of various types and includes Ijarah-
based Sukuk, Istisna-based Sukuk, Salam-
based Sukuk, Mudarabah-based Sukuk and
Musharaka-based Sukuk. The most popular
form of Sukuk is by far sukuk based on
Ijarah (Islamic Leasing) due to its flexibility
and the lower risk it entails since the asset
is already in existence and the income more
or less guaranteed from the leased assets,
making it easier to convince investors that
they will get some good returns from it.
There are basically two types of Ijarah-
based sukuk, namely, that which is based
on the ownership of the underlying asset (
ijarah ayan) or that which is based on the
sale of its usufruct (ijarah manafi).
In ijarah manafi certificates are issued for the
ownership of the usage of the asset and not
the underlying asset itself. The returns from
this type of investment come by way of the
rent paid by the lessee which is distributed
among the investors in proportion to their
investment. In ijarah ayan, certificates are
issued to investors conferring ownership of
the underlying asset itself. Sovereign sukuks
issued by states are normally of this type
and comprise of the sale of public-related
property such as airports, hospitals and
schools to private investors.
BASICS
Although there is unanimity as to the permissibility of
sukuk by the Shariah scholars specializing in Islamic
Banking & Finance, a controversy recently arose as to
its permissibility following a highly sensationalized
interview with a prominent Shariah scholar Mufti
Taqi Usmani where he is reported to have stated
that as much as 85 percent of the sukuks currently
available in the market do not comply with Shariah
requirements. All indications however are that he was
misquoted and his statements taken out of context. In
fact Mufti Usmani recently clarified his position at the
Annual Shariah Conference organized by AAOIFI
held in Bahrain from the 27th-28th May where he
explained that he was referring to an undertaking
in a Mudarabah or Musharakah-based sukuk where
it is not allowed for any party to guarantee the
performance of the sukuk.
According to Dr.Burhan Arbouna, Head of Shariah
Compliance, UIB and a well known scholar on
Islamic Finance what often happens in Mudarabah-
and Musharaka-based Sukuks is that there is some
sort of undertaking to repurchase the asset in
question at the nominal value which creates a Shariah
compliance issue. He contends that in these types of
transactions, if there is an undertaking to purchase
depreciated assets at the nominal value rather than
the market value of these assets where depreciation
would inevitably be taken into consideration, it
becomes a sort of riba-based guarantee which is
prohibited in Islam. However this does not mean that
all Mudarabah- and Musharakah-based Sukuks are
non-Shariah compliant. What is necessary is that
these should avoid undertaking to repurchase the
assets at nominal value though an undertaking could
be given to repurchase at market value.
Sukuks are today a leading instrument for mobilizing
funds by both governments and corporates. Malaysia
has taken a lead in the issuance of Sukuk and has
pioneered a number of unique and innovative Sukuks
that show much promise for the future. Bahrain has
also played a big role in the development of the Sukuk
market on the basis of both Ijarah and Salam. In this
connection the Bahrain-based Liquidity Management
Center (LMC) has played a significant role in issuing,
arranging and creating secondary markets for sukuk.
Recent years have also seen a Sukuk issued by Kuwait
Finance House based on Ijarah and Istisna and a
Sukuk issued by Darul Arkan of Saudi Arabia which
is lead arranged by Unicorn Investment Bank. Qatar
too has issued a Sovereign Sukuk.
These developments show that Sukuks are widely
seen by governments as a promising tool to mobilize
funds for public utility developments such as
infrastructure development projects and by corporates
as an instrument for tapping into the ready liquidity
currently available in the Middle East and elsewhere.
AAOIFI Standards for Sukuk have been in place for
the past 5 years and it is likely that greater stringency
will be needed as the industry progresses and expands
to new areas.
BASICS
Sukuk...
Hong Kong will shortly be issuing its first Sukuk, thus
boosting its ambition of becoming a leading financial
centre in the region. The Citys Airport Authority, it is
learnt, will take the lead in selling its first Islamic bond
of up to $1 billion. The Hong Kong airport operator,
according to the South China Morning Post was close
to finalising arrangements for the sale of the Sukuk but
was awaiting government approval for a tax exemption to
enable the deal to comply with Islamic requirements. The
main hurdle to be overcome for Islamic finance to take off
is to modify the existing tax code where profits are taxed
while interest income is not.
Malaysia chosen as launching pad into
Asian Islamic Finance Market
Faisal Private Bank (Switzerland) SA, which is keen on
expanding its activities in Southeast Asia, has selected
Malaysia as its launch pad into the regions Islamic private
banking market.
First Sukuk from Hong Kong
Alburaq launches new product in UK
Alburaq has launched the UKs first Shariah-compliant
capital protected savings plan as an alternative to a
guaranteed equity bond. The product aims at giving
investors access to uncapped returns linked to shares in
20 major companies, with capital protection. The minimum
investment is 500 and the maximum 1m.
Investment banking head, Giovanni Perin, announced that
the bank will open a representative office here soon. We
have been given the nod by the Swiss Federal Banking
Commission to open a representative office here and we
have just filed the documents with Bank Negara Malaysia
for its approval, Perin told The Edge Financial Daily.
The bank which is 79.6% owned by Bahrain-based Ithmaar
Bank might also acquire strategic stakes in local financial
institutions as part of its efforts to expand businesses.
Indeed Faisal is said to have a genuine interest in using
Malaysia as a platform to tap into other markets in the
region, including Indonesia, Singapore and China.
GLOBAL NEWS
GLOBAL NEWS ROUND-UP
Indonesia is shortly expected to pass legislation
to facilitate the growth of Islamic banking in the
country. The proposed bill will permit foreigners to
establish Shariah-compliant banks in partnership
with Indonesian citizens or local entities. It would
also offer more flexibility to commercial banks, thus
facilitating their conversion into Islamic banks.
According to the Central Bank of Indonesia, three local
banks, the state-owned PT Bank Rakyat Indonesia
(BRI) BBRI.JK, PT Bank Bukopin BBKP.JK and PT
Bank Negara Indonesia Tbk (BNI) BBNI.JK plan to
open Shariah-compliant units this year. According to
analysts, the new law will strengthen the regulatory
environment and pave the way for further expansion
of Indonesias Islamic finance market. The potential
for Islamic banking, finance and insurance remains
vast as around 85 percent of Indonesias 226 million
population is Muslim.
Indonesia to boost Islamic Banking Fatwa for the People
Egypts Al-Azhar University has issued a fatwa or religious
edict ruling that the government should allocate some of
its oil and gas wealth to the people, an edict which has
won much popular acclaim, especially in a context where
rising inflation, especially in food prices is bearing hard
on ordinary peoples lives.
The Islamic Research Centre of Cairos Al-Azhar issued
the fatwa stating that it is a sacred duty to pay 20 percent
of oil, gas and mineral revenues in the form of alms to the
poor known as zakat which is one of the five pillars of Islam
and an obligatory duty for all Muslims. The fatwa is based
on a hadith (saying) of Prophet (Mohammed) which says
that a zakat of 20 percent is obligatory on all metals and
minerals, solid or liquid, Research Centre member and
Al-Azhar teacher Mohammed Rafat Osman told Agence
France-Presse.
Egypts oil and gas exports amounted to 10.1 billion
dollars in 2007, according to official figures. With crude
oil reaching a record high of nearly 140 dollars a barrel
last week, 2008 revenue is set to be still higher. Based on
the 2007 figures, the governments annual alms payments
should in theory amount to around two billion dollars.
Despite its official growth rate of seven percent, it has
been estimated that 40 percent of the population lives on or
around the poverty line of two dollars a day.
GLOBAL NEWS
GLOBAL NEWS ROUND-UP
GLOBAL NEWS
A prominent Indian lawmaker has called upon his country
to promote Islamic banking as a participative investment
option by taking a cue from the UK. Rajya Sabha Deputy
Chairman K Rahman Khan said at a seminar on emergence
of ethical investment organised by the Institute of Objective
Studies and the Indo-Arab Economic Co-operation Forum
that India should start Islamic investment on the lines
of Bank of England, which has brought a regulatory
mechanism for such ethical investment.
India sadly lacks proper legislation in place to accommodate
Islamic banking despite a Muslim minority comprising
of nearly 14 percent of its approximately 1.12 billion
population. In fact the country is home to the third largest
Muslim population after Indonesia and Pakistan. However,
the scope for Islamic investments in India remains vast. A
recent survey showed that of 1,000 NSE listed companies,
as many as 335 qualified on Shariah parameters.
Calls for India to promote Islamic Banking
GLOBAL NEWS
L
anka ORIX Leasing Company PLC
(LOLC), a leading Sri Lankan Financial
Solutions Provider launched a range of
Shariah-compliant financial products at a media
conference held in Colombo recently. The entry
of LOLC into the arena of Islamic Financing is
likely to add momentum to the growth of the
industry due to its strategically placed branch
network which should allow easy access to
potential clients.
The new Islamic Business Unit (IBU) of
LOLC will offer Ijarah (Leasing), Murabaha
(Trade Financing), Mudarabah (Profit Sharing
Investments) and Diminishing Musharakah
T
he Aligarh Muslim University, a leading
Islamic university in India plans on offering
a course on Islamic Banking and Finance
leading to a Post Graduate Diploma from the next
academic year. This is the outcome of a recent meeting
Vice Chancellor, Professor P K Abdul Azis had with
a team of experts comprising of Dr. Mohammad
Nejatullah Siddiqui, former AMU Professor and a
well known expert on Islamic Banking and Finance,
Mr. Sayed Mohammad Beary and Dr. Shariq Nisar of
Bearys Amnah Investments Pvt. Ltd., Bangalore.
The meeting noted the rapid changes taking place
in the Banking arena both within India and abroad,
which is fast moving towards Shariah-based Banking
and Finance operations. The presence of a number
LOLC Launches
Shariah compliant
financing
Aligarh University to commence Islamic
Finance courses shortly
(Property Financing). The Unit has its own dedicated team
led by two well known local Shariah scholars, namely Sheikh
Fazil Farook and Sheikh Murshid Mulaffar who are executive
members of the All Ceylon Jamiyatul Ulama, the apex religious
body of Islamic scholars in the country. It is also supported
with the necessary infrastructure including separate IT,
Documentation and Financial Accounting complying with
strict Shariah standards. It also has its own brand identity,
namely LOLC Al-Falaah which is derived from the Arabic
term for success- Falaah.
of Banking Enterprises in India working on Islamic
Banking principles, the rapid growth of the industry
and the great employment potential it shows were
among the factors that prompted the university to
consider offering the Diploma. The university is
also considering the possibility of establishing a
new Department dedicated to Islamic Banking and
Finance.
A high powered committee consisting of Dr.
Mohammad Nejatullah Siddiqui (Chairman), Dr.
Shariq Nisar (Bearys Amnah Investments Pvt.
Ltd., Bangalore) and Dr. Javed Akhtar, Chairman,
Department of Business Administration, AMU has
been constituted to prepare a detailed proposal for
commencing the programme.
KNOW IT ALL
- A remarkable success
Know It All a 2-day Seminar & Workshop on
Islamic Banking, Finance & Takaful held on the
7th-8th June 2008 at the TransAsia Hotel was
an immense success according to its organisers.
This landmark event was organized by the First
Global Knowledge Center (FGKC), a leading event
manager and franchisee of Islamic Banking and
Finance study courses in Sri Lanka and a subsidiary
of the First Global Group, an emerging player
in the local and global Islamic Finance industry
which is involved in a number of areas connected
with Islamic banking and fnance.
The programme was organized by FGKC taking
into consideration the success of previous events
of this nature and the tremendous popular
demand for such programmes on the part of
students, accountants and banking professionals.
Over 150 participants attended the seminar which
included students of Islamic Banking and Finance,
Accounting, Legal and Tax Advisory frms and
Banking and Insurance frms such as BoC, NTB,
HDFC and Amana Takaful.
The programme was conducted by eminent
personnel of international repute. Namely, Sheikh
Esam Ishaq who is a renowned scholar from the
Middle East represented in a number of Shariah
Supervisory Boards of Islamic banks and fnancial
institutions worldwide, Dr. Mohammed Burhan
Arbouna, Shariah Advisor of United International
Bank of Bahrain and a well-known tutor on
Islamic Banking and Finance and Mr. Muhammed
Ikram Thowfeek, a start-up specialist in setting
up Islamic banks and fnancial institutions and a
much sought after speaker at various international
forums. The seminar sought to instill in students
an understanding of the principles of Islam that are
relevant to Islamic banking products and services,
a familiarity with the full range of Islamic products
and services, a grounding on how Islamic banks earn
profts and distribute them among shareholders,
depositors and investors and a training on how to
create new markets with Islamic Financial Products.
The topics dealt with included Introduction and
background of Islamic Banking, Islamic Banking
Modes of Financing such as Murabaha, Ijara and
Ijara Muntahia Bittamleek, Instruments of equity
investment such as Musharaka and Mudaraba
ventures, Loan and its application by Islamic Banks
and Islamic Insurance which is commonly known
as Takaful. These subjects were dealt in detail from
a practitioners perspective with the speakers
sharing with the participants their knowledge and
experience gathered over the years in the feld of
Islamic banking. The panel discussions where the
speakers answered and clarifed questions raised
by the participants on various issues relating to the
industry was particularly well appreciated.
FGKC plans to have a follow up programme titled
Know it Beyond which will deal with a variety of
topics connected with Islamic Banking, Finance &
Insurance in greater detail during the latter part of
this year.
First Global Investors
Forum 2008
First Global Investments Holdings Ltd, an emerging
player in Sri Lankan Islamic Financial market had
its frst Investors Forum at the Trans Asia Hotel
Colombo on the 6th June 2008. The objective of the
Forum was to create an awareness among investors
of the immense investment potential in the Islamic
Financial industry with special emphasis on Sukuk or
Islamic Securitization.
A number of speakers addressed the this ground
breaking event including Sheikh Esam Ishaq,
Chairman of the Shariah Board of First Global who
spoke on Islamic Capital Market Structure, Mr.Ikram
Thowfeek, Founder and Managing Director, First
Global who delved on First Globals Journey to
success and Mr.Sabri Abdul Cader, Senior Vice
President, First Global who outlined the potential for
Sukuk in the local market and First Globals role in it.
First Global Investments is currently working to
secure mandates to raise USD 300 Million through
the issuance of Sukuk. Founder and Managing
Director of First Global Investments, Mr. Ikram
Thowfeek said that FGIs objective is to bring FDI in
to Sri Lanka through Islamic Banking. The Sukuk to
be issued will go up to Rs.1 Billion, and will be open
for review with a portfolio extending up to 3 years or
5 years, he said. He further explained that building
credibility is the key diferentiation for any player
providing Islamic fnancial services and commencing
June 30, 2008 they hoped to raise capital up to USD
10 Million in two phases, with USD 5 Million in each.
In this connection, First Global has joined with
Investec Capital (Pvt) Ltd to act as lead arrangers to
issue the frst Sri Lankan Sukuk to Peoples Leasing
Company Limited Islamic Finance Services Unit.
Deutsche Bank AG, Colombo Branch would be
appointed the trustee to manage the trust on
behalf of the investors. First Global will also act as
the Structuring Advisor along with Investec and as
Shariah Advisor to the transaction.
Sukuk or Islamic fxed income securities have
emerged over the years as an increasingly important
and most promising asset class. This instrument
serves a number of objectives, among them,
enabling organizations to raise capital in a Shariah
compliant manner, expanding the investor base,
ofering investment opportunities to new groups
and the ability to be structured in a number of
increasingly complex ways. In short, it has become
a widely accepted and most promising asset class,
not only in Muslim countries, but also in non-Muslim
countries which have resorted to it in a big way to
raise monies from investors, particularly those based
in the Middle East.
Know your Institution
Islamic Development Bank
The Islamic Development Bank (IDB) is a
multi-lateral development financial institution
established to foster the economic development
and social progress of its member countries and
Muslim communities in non-member countries
in accordance with the principles of Shariah
(Islamic Law).
The IDB was established in pursuance of the
Declaration of Intent issued by the Conference
of Finance Ministers of Muslim Countries held
in Jeddah in December 1973 and the Bank
formally commenced operations in October
1975. The Banks principal office is in Jeddah
in the Kingdom of Saudi Arabia. Two regional
offices were opened in 1994; one in Rabat,
Morocco, and the other in Kuala Lumpur,
Malaysia. An IDB Representative Office at
Almaty, Kazakhstan, to serve as a link between
IDB member countries and Central Asian
Republics became operational in July 1997
and is now a full-fledged Regional Office. The
Bank also has field representatives in eleven
member countries. These are: Indonesia, Iran,
Kazakhstan, Libya, Pakistan, Senegal, Sudan,
Gambia, Guinea Bissau, Mauritania and
Algeria.
The present membership of the Bank consists of
56 countries. The basic condition for membership
is that the prospective member country should
be a member of the Organization of the Islamic
Conference, pay its contribution to the capital
of the Bank and be willing to accept such terms
and conditions as may be decided upon by the
IDB Board of Governors.
Among the functions of the Bank is to
participate in equity capital and grant loans
for productive projects and enterprises besides
providing financial assistance to member
countries in other forms for economic and
social development. The Bank is also required
PROFILE
Know your Scholar
Sheikh Muhammed
Al Bashir Al Amine
Sheikh Muhammed Al Bashir
Muhammad Al Amine is a renowned
scholar on Islamic Banking and Finance.
He is currently Shariah Compliance
Department Manager at Unicorn
Investment Bank - Bahrain and a Member
of the Shariah Supervisory Board of First
Global Investments Holdings- Sri Lanka.
He was formerly the Head of Product
Development and Shariah Compliance at
International Islamic Financial Market.
He holds a Ph.D in Laws from the
International Islamic University Malaysia
and a Bachelor of Shariah from the
University of Medina, Kingdom of Saudi
Arabia.
He is a Lecturer and Researcher at
the International Islamic University of
Malaysia and an author, who is published
extensively on Islamic banking and
finance in several renowned journals
including the Arab Law Quarterly,
International Journal of Islamic Financial
Services and Islamic Finance Today. He
is also a speaker in various international
forums.
to establish and operate special funds
for specific purposes including a fund
for assistance to Muslim communities
in non-member countries, in addition
to setting up trust funds. The Bank is
authorized to accept deposits and to
mobilize financial resources through
Shariah compatible modes. It is also
charged with the responsibility of
assisting in the promotion of foreign
trade especially in capital goods, among
member countries; providing technical
assistance to member countries; and
extending training facilities for personnel
engaged in development activities in
Muslim countries to conform to the
Shariah.
Among its member organizations are
the Islamic Corporation for Insurance
of Investments and Export Credits
(ICIEC) which was established with
the objective of enlarging the scope
of trade transactions and investment
flows among the member countries of
the Organisation of Islamic Conference
(OIC), Islamic Research and Training
Institute (IRTI) established to help the
Bank in discharging its functions in the
fields of research and training, Islamic
Corporation for the Development of the
Private Sector (ICD) to complement IDB
through the development and promotion
of the private sector as a vehicle for
economic growth and development in
member countries and the International
Islamic Trade Finance Corporation
(ITFC) which was established to
promote trade of the member countries of
the Islamic Development Bank through
providing trade finance and engaging in
activities that facilitate intra-trade and
international trade.
PROFILE
Realisation of the Worlds First
International Benchmark in
Islamic finance
TRAINING
T
here are several drivers
behind the IFQ, but most
notable are Muslims
seeking to embrace their religious
convictions in their financial
transactions and the economic
boom in the Middle East as a result
of the rise in oil prices. BDL, as a
banking regulator was well aware
of the growth taking place in
the Islamic finance industry and
wanted to ensure that there were
staff trained to deal competently
with that growth; otherwise,
investors would suffer, as would the
reputation of the industry.
A steering group chaired by Alain
Balian, Vice Governor of the
BDL, was created to oversee the
development of the programme,
and in August 2005, the Advisory
Council for Islamic Finance, the
committee responsible for the IFQs
By Margaret Spong
The idea of an Islamic fnance qualifcation was frst discussed in 2005, when the Banque du Liban
(BDL) approached both ESA and SII with the idea of developing a fnance qualifcation underpinned
by the tenets of Shariah law. As a result of these talks, the SII, with its experience in developing
regulatory examinations, joined with the Beirut-based Ecole Superieure des Afaires
(ESA), the leading business school in the MENA region and a leader in Islamic
Finance qualifcation.
developments met for the first time. This is chaired
by the first Vice Governor of the BDL, Dr Ahmad
Jachi, and draws its members from leading Shariah
scholars and practitioners based around the Gulf and
the UK.
With SII operating out of the UK a supporting panel
of experts based in the UK was established to ensure
that the programme would be relevant to UK firms
engaged in Islamic finance. And while banks and
finance houses come to mind as the main users of the
new qualification, the IFQ also draws interest from
accountancy and law firms engaged in providing
services to financial institutions.
In a Class of its Own
In general, academic studies of Islamic finance tend
to be provided through courses developed by one
institution which draw on a relatively small number
of experts and have a focus on theoretical debate.
In contrast, at the inception of the qualification,
the decision was taken that the IFQ should provide
new comers to the industry with a broad overview
of the industry. And while it was vital that the IFQ
would help readers understand the role of Shariah in
Islamic finance and familiarize them with the ethics
underpinning the contracts, the aim was a practical
qualification that would help candidates in their work
- in short, the worlds first ever global benchmark
qualification to cover Islamic finance from both a
technical product knowledge and a Shariah aspect.
The syllabus, study text and examination for the IFQ
have been created using experts drawn from around
the globe. Further the IFQ is unique because it is a
global benchmark examination available to candidates
via Computer Based Testing (CBT), which means it
can be studied and the examination taken in almost
100 centres around the world. Currently, candidates
in some 29 countries as far apart as Australia and
Denmark are preparing for the examination.
In summary, the IFQ is unique because :
There is no other qualification or unified standard
practice which covers Islamic finance from both
a technical and Shariah aspect which offers the
degree of international portability and professional
competence comparable to that offered by the
IFQ.
The IFQ provides the first international benchmark
in the area of Islamic finance and it is aimed at
existing employees and new employees as well as
individuals seeking a career in Islamic finance.
The IFQ is jobs-focused and requires candidates to
demonstrate a practical understanding of Islamic
finance as opposed to discussing academic and
theoretical issues.
The IFQ has drawn on many experts from a
number of countries in its creation.
Launching the IFQ
The SIIs role in the introduction of the IFQ is best
summarized by SII Managing Director Ruth Martin:
Setting standards for practitioners is a vital part of
any professional bodys remit. SII has been delighted
to combine its expertise in both examinations
development and professional standards to partner
with ESA in the Middle East in this innovative new
qualification aimed at helping practitioners grasp the
fundamentals of Islamic finance and banking.
The IFQ was launched in October 2006 by the then
Lord Mayor of the City of London, Alderman Sir
David Brewer, and the Governor of Lebanons Central
Bank, Mr. Riad Salame, at an event attended by the
then UK Economic Secretary to the Treasury, Mr. Ed
Balls, and Vice Governors of Lebanons Central Bank.
Mr.Alain Balian and Dr Ahmad Jachi.
The launch generated considerable interest in the
media, as it was noted that the workbook underpinning
the examination was the worlds first ever handbook
on practical Islamic finance and banking and so would
be of interest to organisations already engaged in this
area, or those thinking of moving into Islamic banking
and finance, as a practical guide for their staff.
Test time
As a wholly new qualification, it was vital that the
examination was pitched at the correct standard. Two
pilot examinations were held in Beirut and London
in November 2006 and January 2007. Candidates
experience at these sessions provided feedback on the
workbook and the examinations with the result that
an amended workbook was published in January 2007
and the first global public sittings of the IFQ took
place in March 2007. For candidates, a further benefit
of a CBT examination is that they receive their results
instantly and can rebook quickly if they have failed.
The examination is a two-hour, 100 multiple choice
question paper covering the basis of Islamic banking
and finance; the Islamic Law of contracts; the major
contracts of Mudaraba, Murabaha, Musharaka, Ijara,
Salam and Istisna; financial statements for Islamic
banks; Islamic corporate governance; Islamic asset
and fund management; Sukuk and Takaful.
Candidates are advised to spend around 100 hours
studying for the examination and if candidates are
non-Muslims and have no experience of Islamic
finance, they are strongly recommended to attend
a face-to-face training session. The pass mark for
the examination is 70 percent and the pass rate is
currently around 70 percent. The examination fee
is 150 and the workbook costs 75. Candidates
seeking a training course are advised to contact the
Accredited Training Provider for details of fees and
dates.
Courtesy: Islamica
TRAINING
Islamic Finance Qualifcation...
DOW JONES INDEXES
Dow Jones Indexes, a leading global index provider announced the results of
the regular quarterly review of the Dow Jones Islamic Market (DJIM) Indexes.
Dow Jones Islamic Market Global Index
Dow Jones Islamic Market Regional Indexes
DJIM World
Index
216 422
Index # of Components ADDED # of Components DELETED
The free-foat market capitalization of the reconstituted Dow Jones Islamic Market World Index decrease to
US$15.49 trillion from US$16.54 trillion.
The free-foat market capitalization of the reconstituted Dow Jones Islamic Market Regional Indexes:
DJIM BRIC Equal Weighted Index : increased to US$2.58 trillion from US$2.49 trillion
DJIM Asia/Pacifc Index : decreased to US$2.45 trillion from US$2.59 trillion
DJIM Europe Index : decreased to US$3.69 trillion from US$4.03 trillion
DJIM Americas Index : decreased to US$9.21 trillion from US$9.78 trillion
Index # of Components ADDED # of Components DELETED
DJIM BRIC
Equal Weighted
Index
7 13
Index
151 182
DJIM Europe
Index
27 91
DJIM Americas
Index
34 144
INDEXES
Dow Jones Islamic Market Country Indexes
The free-foat market capitalization of the reconstituted Dow Jones Islamic Market Country Indexes :
DJIM Amana Sri Lanka Index : increased to US$357 million from US$238 million
DJIM China Ofshore Index : decreased to US$172 billion from US$213 billion
DJIM Hong Kong Index : decreased to US$235 billion from US$245 billion
DJIM India Index : decreased to US$315 billion from US$339 billion
DJIM Indonesia Index : decreased to US$45 billion from US$46 billion
DJIM Japan Index : decreased to US$987 billion from US$1108 billion
DJIM Malaysia Index : increased to US$45 billion from US$38 billion
DJIM Kuwait Index : decreased to US$25 billion from US$46 billion
DJIM Singapore Index : decreased to US$64 billion from US$70 billion
DJIM Turkey Index : increased to US$19 billion from US$14 billion
DJIM U.K. Index : decreased to US$1.22 trillion from US$1.39 trillion
DJIM U.S. Index : decreased to $8.10 trillion from $8.59 trillion
Dow Jones-JS Pakistan Islamic Index : increased to US$5.25 billion from US$4.65 billion
INDEXES
Dow Jones Islamic Market Specialty Index
The free-foat market capitalization of the
reconstituted Dow Jones Islamic Market
Sustainability Index decreased to US$4.66 trillion
from US$5.08 trillion.
Dow Jones Islamic Market Industry Indexes, other
Dow Jones Islamic Market Country Indexes and other
Dow Jones Islamic Market Global Indexes are also
part of this regular quarterly review. The Dow Jones
Islamic Market Titans Indexes are reviewed annually
in June and the Dow Jones DFM Indexes annually in
March.
The Dow Jones Islamic Market Indexes were
introduced in 1999 as the frst indexes intended to
measure the global universe of investable equities
that pass screens for Shariah compliance. To
determine their eligibility for the Dow Jones Islamic
Market Indexes, stocks are screened based on their
industry type and their fnancial ratios. Excluded are
companies engaged in the following lines of business:
alcohol, tobacco, pork-related products, fnancial
services, defense/weapons and entertainment. Also
excluded are companies for which the following
fnancial ratios are 33% or more: debt divided by
trailing 12-month average market capitalization;
cash plus interest-bearing securities divided by
trailing 12-month average market capitalization; and
accounts receivables divided by trailing 12-month
average market capitalization.
INDEXES
COMPONENT CHANGES MADE
TO DOW JONES ISLAMIC MARKET
TITANS 100 INDEX
NEW YORK (June 13, 2008) Dow Jones Indexes,
a leading global index provider, today announced
the results of the regular annual review of the Dow
Jones Islamic Market Titans 100 Index and its
three sub-indexes, the Dow Jones Islamic Market
U.S. Titans 50 Index, Dow Jones Islamic Market
Asia/Pacific Titans 25 Index and Dow Jones
Islamic Market Europe Titans 25 Index.
The changes will be effective as of the open of trading
on Monday, June 23, 2008.
The following seven components will be deleted
from the Dow Jones Islamic Market Titans 100
Index and sub-index Dow Jones Islamic Market
U.S. Titans 50 Index: Target Corp. (United States,
Retail, TGT), Kimberly-Clark Corp. (United States,
Personal & Household Goods, KMB), Motorola Inc.
(United States, Technology, MOT), PepsiCo Inc.
(United States, Food & Beverage, PEP), Schering-
Plough Corp. (United States, Health Care, SGP), Tyco
International Ltd. (New) (United States, Industrial
Goods & Services, TYC) and Valero Energy Corp.
(United States, Oil & Gas, VLO). The following seven
companies will be added: Wal-Mart Stores Inc. (United
States, Retail, WMT), Verizon Communications Inc.
(United States, Telecommunications, VZ), Monsanto
Co. (United States, Chemicals, MON), Exelon Corp.
(United States, Utilities, EXC), Gilead Sciences Inc.
(United States, Health Care, GILD), Devon Energy
Corp. (United States, Oil & Gas, DVN) and Freeport-
McMoRan Copper & Gold Inc. (United States, Basic
Resources, FCX).
Rio Tinto Ltd.(Australia, Basic Resources, RIO.AU),
Kao Corp. (Japan, Personal & Household Goods 4452.
TO, KCRPY), Kyocera Corp.( Japan, Industrial Goods
& Services, 6971.TO, KYO), Murata Manufacturing
Co. Ltd. (Japan, Industrial Goods & Services, 6981.
OK) and Sumitomo Metal Industries Ltd. (Japan,
Basic Resources,5405.TO, SMMLY) will be deleted
from the Dow Jones Islamic Market Titans 100
Index and sub-index Dow Jones Islamic Market
Asia/Pacific Titans 25 Index and will be replaced
by CNOOC Ltd. (Hong Kong, Oil & Gas, 0883.HK,
CEO), CSL Ltd. (Australia, Health Care CSL.AU),
Singapore Telecommunications Ltd. (Singapore,
Telecommunications, SGAPY, Z74.SG), Daiichi
Sankyo Co. Ltd. (Japan, Health Care, 4568.TO)
and FUJIFILM Holdings Corp. (Japan, Personal &
Household Goods, 4901.TO, FUJI).
Rio Tinto PLC (United Kingdom, Basic Resources
RIO.LN, RTP) and Enel S.p.A. (Italy, Utilities, ENEL.
MI) will be deleted from the Dow Jones Islamic
Market Titans 100 and its sub-index, Dow Jones
Islamic Market Europe 25 and will be replaced by
ArcelorMittal (France, Basic Resources, MTP.FR,
MT.AE, MT) and ABB Ltd. (Switzerland, Industrial
Goods & Services, ABB.SK, ABB, ABBN.VX).
The free-float market capitalization of the
reconstituted Dow Jones Islamic Market Titans 100
Index increased to US$7.938 trillion from US$7.759
trillion, as of May 30, 2008.
The Dow Jones Islamic Market Titans 100 Index
tracks the largest 100 stocks traded in the U.S.,
Europe and Asia/Pacific that pass rules-based screens
for compliance with Islamic investment guidelines.
Stocks are screened based on their industry type
and their financial ratios. Excluded are companies
engaged in the following lines of business: alcohol,
tobacco, pork-related products, financial services,
defense/weapons and entertainment. Dow Jones
Indexes then screens out companies with unacceptable
financial ratios: companies whose total debt divided
by trailing 12-month average market capitalization is
33% or more; those whose cash plus interest-bearing
securities divided by trailing 12-month average
market capitalization is 33% or more and those whose
accounts receivables divided by trailing 12-month
average market capitalization is 33% or more.
INDEXES

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