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An Overview of Islamic Finance: Fundamentals and Prospects

AANZFTA BUSINESS SEMINAR: Partners In Growth: Services Trade with Southeast Asia Amora Hotel, Wellington ; Friday 3 June 2011. An Overview of Islamic Finance: Fundamentals and Prospects. Assoc . Prof. Dr. Asyraf Wajdi Dusuki Head, Research Affairs. Presentation Outlline.

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An Overview of Islamic Finance: Fundamentals and Prospects

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  1. AANZFTA BUSINESS SEMINAR: Partners In Growth: Services Trade with Southeast Asia Amora Hotel, Wellington; Friday 3 June 2011 An Overview of Islamic Finance: Fundamentals and Prospects Assoc. Prof. Dr. Asyraf Wajdi Dusuki Head, Research Affairs

  2. Presentation Outlline Growth of Islamic Financial Assets 2 The Impact Financial Crisis to Islamic Finance Global Outlook of Islamic Finance Characteristics of Islamic Finance Conclusion Salient Features of Islamic Finance The Framework of Islamic Finance Showcase of Malaysian Islamic Financial Centre 7 8 5 6 4 1 3 AANAFTA Business Seminar

  3. The Framework of Islamic Finance Maqasid al-Shariah (The Objectives of Shariah) ENDS / الغاية 1st Level of Compliant Nominate Contracts Non-Nominate Contracts MEANS/ الوسيلة Investment Activities Rectifying & Purifying Shariah-Compliant Operation 2nd Level of Compliant Conversion Process Hedging Instruments Monitoring & Supervision Social Responsibility

  4. Asset Classes in Islamic Finance

  5. Promote Public Interest (Maslahah) Entitlement to Equal, Adequate, Accurate Info. Free from Riba (Usury) Promote Equity Free from Gharar (Ambiquity) A system grounded on moral and ethics Free from Dharar (Detrimental) Characteristics of Shariah-compliant Banking and Financial System Entitlement to Transaction at Fair Price Freedom to Contract Free from Price control & Manipulation Free from Gambling

  6. Illustration on Sukuk Structuring

  7. Literal Meaning • Sukuk is the plural of sak which means certificates. Other similar terms: • Taskik – process of dividing assets into papers (sukuk) • Tawriq – to render something into cash Technical Meaning Sukuk refers to securities, notes, papers or certificates, with features of liquidity and tradability (except for salam and murabahahsukuk) SUKUK AAOIFI “Investment sukuk are certificates of equal value representing undivided shares in ownership of tangible assets, usufructs and services (in the ownership of) the assets of particular projects or special investment activity” • Malaysian Securities Commision • “A document or certificate which represents the value of an asset” • Asset – may include financial asset such as receivables and debts, as well as non financial assets like tangible assets, usufructs and services.

  8. Obligor/Project Developer Issuer/Trustee BASIC STRUCTURE OF SUKUK Proceeds from Sukuk Sales Issue Proceeds Sukuk Income from project Income Generating Project Sukuk Investors

  9. Comparing SUKUK to BONDS

  10. Starting in 1971 with the first Islamic bank in Egypt, there are now more than 600 Islamic financial institutions in 75 countries Emerging interest on Islamic finance as viable alternative to the global financial system … Pakistan Sudan Indonesia • Germany • Saxony-Anhalt state issued government sukuk • First Islamic bank to operate in 2010 South Korea Parliament expected to pass the law related to offering of tax waiver on foreign investors’ interest income from sukuk issued • UK • Gov’t sets an objective to ‘entrench London as a global gateway for Islamic finance • 5 FSA-approved Islamic banks and Takaful operators • Plans to issue sovereign sukuk, amend tax law on IF • Turkey • Announced IFC Istanbul in Sep ’09 with focus includes interest-free financial business Japan Law passed allowing banks to do Islamic finance Iran Bahrain Qatar • France • Passed rules/regulations to support Islamic finance activities • In process of licensing Islamic banks • Made fiscal & legal adjustment for IF transaction i.e. taxation guidelines on sukuk & murabaha • Malta • Plans to position as Islamic finance hub for the Mediterranean Saudi Arabia UAE Kuwait Thailand • Hong Kong • Aims to become Islamic finance gateway to China • Plans to issue sovereign sukuk • Hang Seng Islamic China Index Fund in 2007 Malaysia • Jordan • Plans to tap sukuk market to finance its deficit • Singapore • Established first Islamic bank • Introduced tax neutrality for Islamic finance • Aspiring to be centre for Islamic finance • Launched Islamic ETF Brunei Aim to become Islamic financial services hub for Asia Muslim-majority countries offering Islamic finance (IF) Non-muslim countries starting to offer IF Courtesy of Bank Negara Malaysia

  11. Global developments – Islamic bankingGrowth expected to continue By 2020, estimated to reach USD4t Almost 90% of global market share are in top 6 Islamic financial markets Global growth rate of 15-20% per annum over the last 10 years • Mid 1990s – approximately USD150b • 2009 – approximately USD780b • 2010 – estimated USD956b • 2012 – USD1.6t (IFSB estimate) Courtesy of Bank Negara Malaysia

  12. Global sukuk marketContinued to expand in 2009 Courtesy of Bank Negara Malaysia

  13. Global developmentsBreakdown of Islamic finance assets The largest share of Islamic financial assets remains in Islamic banking, although growth is slowing • Sukuk and takaful continues to grow • Islamic funds registers a slight decrease Courtesy of Bank Negara Malaysia

  14. Post crisis sukuk marketImpact of global financial crisis Not spared as sukuk is seen in the same asset class as bonds… USD34b • but has since staged a recovery – • USD20b in 2008 • USD33b in 2009 (▲70%) • USD50b (▲ 55%) in 2010 Courtesy of Bank Negara Malaysia

  15. Post crisis global Islamic banking industry Largely shielded Study on Top 10 Conventional banks vs Top 10 Islamic banks • Only 1 Islamic financial institution required government assistance • 5 top conventional banks received government assistance of USD163.0b or 26% of their combined equity • Not a single Islamic bank required to be rescued 2008 2009 Source: IFSB-IRTI-IDB Islamic Finance and Global Financial Stability Report, 6 April 2010 based on E&Y study Courtesy of Bank Negara Malaysia

  16. Global Islamic banking industryLargely shielded: reasons why US Commercial Papers Outstanding Courtesy of Bank Negara Malaysia

  17. Global Islamic finance industryLargely shielded: reasons why • Avoidance of unethical activities • Avoidance of maisir (gambling) & riba (interest) & non-permissible goods & services • Screening investment • Forbearance for customers in difficulties • Direct link to real economy • Certainty – supported by underlying activities (prohibition of gharar - uncertainty) • Prohibits excessive leveraging • Money is not commodity • Real Activities • Ethical • Greater transparency & disclosure- • additional Shariah governance • unique risks • Greater fiduciary duties & accountability • Emphasis on clear documentation & contract add to soundness & stability • Different contractual relationship • Equity-based & risk-sharing transactions • Clearly defined risk & profit-sharing characteristics serve as additional built-in mechanisms • Governance Courtesy of Bank Negara Malaysia

  18. Context setting The Malaysian Financial Landscape │18

  19. Malaysia: the world’s most comprehensive Islamic financial system… Islamic Banks & Takaful Companies Diversified Players Governance • Banking • 17 Islamic banks • 10 Islamic windows • 3 International Islamic Banks • 14 International Currency Business Units (ICBU) • Takaful • 8 takaful operators • 4 retakaful operators • 7 ICBUs • Legal & Regulatory • Islamic Banking Act • Takaful Act • Government Funding Act • Capital Market Services Act • Shariah Advisory Council • Central Banking Act • Dispute Resolution • Judicial system: dedicated high court • KL Regional Centre for Arbitration • Financial Mediation Bureau Islamic Money Market Islamic Capital Market Malaysian Financial System Labuan IBFC Capital market Money market Conventional Banks & Insurance Companies • Fund Management • 9 Islamic fund managers • 35 Islamic fund management windows Financial Markets Professional Service • Legal firm • Accounting • Financial Intermediaries • Financial Advisors • Consultancy Service • Capital Market • Money Market • Foreign Exchange Market • Commodity Market • Bursa Suq Al-Sila Infrastructure • Payment, clearing and settlement, custodian • Principal Dealers • Listing on Bursa with authorise exchange status More than 30 years of experiences in developing Islamic finance… Courtesy of Bank Negara Malaysia

  20. Malaysia has a well-developed sukuk market Source: Malaysian ICM Bulletin, June09, SC • 58% of outstanding corporate bond are sukuk • Malaysia’s outstanding sukuk (public & private) = USD66 billion @ end June 2009 • 62% of total outstanding sukuk globally • Malaysia as centre for innovative sukuk • Active secondary sukuk market • More than 80% of the sukuk are private sectors’ sukuk Courtesy of Bank Negara Malaysia

  21. ISRA @ INCEIF 2nd Floor, Annexe Block Menara Tun Razak Jalan Raja Laut 50350 Kuala Lumpur MALAYSIA General Line : +603-2781 4000 Fax : +603-2691 1940 Email : asyraf@isra.my Website : www.isra.my

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