Contenders to the throne

Lynn Strongin Dodds examines whether the availability of Shariah compliant products is gathering pace in Europe, or if the UK looks unchallenged as the centre of European Islamic finance

London may have the edge over other European capitals as a centre of Islamic finance outside the Muslim world, but appetite for Shariah compliant products has diminished in the wake of the global financial crisis and more recently the Arab spring and the European debt debacle. The general consensus is that markets will have to stabilise before the industry can truly fulfil its promise.

“In general financial markets have performed badly since 2008 and this has definitely had an impact on Islamic investment,” says The Bank of London and Middle East head of asset management Nigel Denison. “There needs to be a resolution of the eurozone debt crisis but until the situation improves investors across the board will remain cautious.”

The Islamic finance sector though is relatively healthy compared to other parts of the asset management community. It boasts an enviable annual compounded growth rate of 18.82 per cent from 2006 to 2011 and last year Shariah compliant assets tipped the $1 trillion mark globally with a potential global growth of $4 trillion, according to a new report on Islamic finance by The Banker magazine and Maris Strategies, a research and advisory group. The report also showed that the UK, which is in ninth place as an Islamic financial hub and the leading Western country, accounts for around $19 billion of the total figure.

Although that figure may seem like a relative drop in the proverbial bucket, the UK, with a population of two million Muslims, is hoping to bolster its lead while Luxembourg is making a strong push in the fund structure segment of the market. “This is not surprising given that London is a major financial centre that has fund managers who have experience in managing Shariah compliant investments while Luxembourg is a major fund centre,” says law firm King & Spalding Middle East and Islamic finance practice group partner Mike Rainey. “Both countries have leveraged their experiences in the traditional fund management industry to develop Shariah compliant products.”

Law firm K&L Gates partner Jonathan Lawrence adds: “There are competitive jurisdictions but London is the favoured destination of Middle Eastern inflows into Europe. It is the only country in the region that has five authorised Islamic compliant banks and it has amended its tax and regulations to help Islamic investors.”

Germany, where Muslims account for around five per cent of the population and France, which has a higher number at 7.5 per cent, have both tried to muscle in on London’s dominance but so far they have had little success in toppling the city from its perch. France in particular is in the process of amending tax and regulatory codes to attract Islamic investments but investors are thought to have been put off by the controversy over banning the face veil and burka in public places which came into force this past summer. France is the first county in Europe to impose such a law.

Overall though European countries have an uphill battle to compete with London’s well established and international financial services sector. The city not only has a solid infrastructure and technological base but it also boasts a strong, experienced banking and professional services cadre. For example, there are 22 banks that offer Islamic finance, including the five fully compliant organisations, as well as over 20 law firms specialising in Islamic financial services.

In addition, the UK has forged strong partnerships with other centres of Islamic finance, including Bahrain and has developed innovative products such as the commodity murabaha – Islam’s version of interbank short-term lending and syndicated loans. More money in this product flows through London than any other centre in the world. The city has also established the first secondary market, albeit small in sukuk trading outside the Islamic world.

On the asset management front, there are about 34 Shariah compliant funds which are mainly invested in real estate or equities which track a Shariah compliant index. HSBC Global Asset Management (the largest provider of Shariah compliant products in the UK) head of global banking corporate Stuart White says: “The Islamic finance asset management industry is relatively small but growing fast. We manage around $400 billion of assets globally and the Islamic compliant strategies represent around $200 million. The UK represents the largest proportion of the business at 50 per cent followed by Asia, particularly Singapore, accounting for about 30 per cent while 20 per cent is from Europe.

“The retail investor in Europe and the UK typically invest via insurance platforms directly into the HSBC Amanah Global Equity Index Fund (a Luxembourg SICAV vehicle). Institutional investors are increasingly offering the same fund as a Shariah option via their defined contribution platforms.”

HSBC Amanah was established in 1998 as the global Islamic financial services division of the HSBC Group with asset management solutions provided by HSBC Global Asset Management. The products and operations are overseen by HSBC Shariah Supervisory Committee and a global Shariah board. These comprise of Shariah Law scholars with an in-depth understanding of financial products. The funds track the Dow Jones Islamic Titans Index and include blue chip holdings such as Exxon Mobile, Johnson and Johnson, IBM, Microsoft, Pfizer and Coca Cola.

White expects the Shariah compliant market in the UK to get a boost from the move to auto-enrolment and in particular NEST, the country’s new national pension scheme, which has chosen HSBC’s Life Amanah fund for its Shariah offering on its DC platform. Currently, less than one per cent of DC assets in the UK are invested in Islamic funds but “I think with auto-enrolment coming into play this year, there will be a significant number of investors who will be joining a workplace pension scheme for the first time and looking for Shariah compliant investments. We expect to see steady and solid growth”.

The general consensus though is that despite the progress made, the UK government needs to launch a sovereign sukuk in order for the industry to jump to the next stage of development. Plans for the sukuk were first mooted in 2007 when the UK Treasury ordered a study into the possibility of issuing Islamic bonds. The government introduced tax concessions for the debt in its annual budget in 2007 and authorities extended tax breaks to Islamic mortgages in 2003.

The view was that the sukuk would have provided investors and banks with a highly rated, potentially liquid security that could be used as a benchmark for issuance. There were also hopes that it would encourage a wide range of corporates to launch these types of bonds and would have led to more interest in Islamic finance in London as well as continental Europe.

The plug was pulled though in 2010 in the wake of the financial crisis due to fears that a new instrument, which would have been the first Islamic bond to be issued by a western government, might struggle to attract demand in difficult market conditions. These concerns have only been exacerbated by the ongoing eurozone debt saga. “One of the biggest stumbling blocks to Islamic finance taking off in Europe is the delay of the sukuk sovereign bond,” says Maris managing director Joseph DiVanna. “There has been talk of the UK government issuing an Islamic bond for the past five years but so far nothing has happened. If it does take place this will encourage more corporates to turn to this market and it will give institutional investors a baseline to work from.”

HSBC Amanah senior manager Amjid Ali notes: “I was on the HM Treasury advisory committee and there was a lot of genuine interest in the instrument. The government did want to issue a bond and were looking at the best ways to implement it. However, it has become less of a priority since 2009 due to the financial crisis. I think a fixed income product is needed though in the long term from a diversification perspective because the main focus for investors are equities and real estate.”

Denison adds: “It would be helpful to have another triple A rated asset in the Islamic market especially given the new liquidity rules being brought into the UK. At the moment, the only Islamic triple A asset is the Islamic Development Bank, which issued a $750 million Sukuk in Jeddah but as this is based outside the OECD there is a significant haircut.”

Written by Lynn Strongin Dodds, a freelance journalist

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