Sun, Sep 21, 2014
Welcome Guest
Free Trial RSS
Get FREE trial access to our award winning publications
Opalesque Islamic Finance Intelligence

Industry Snapshot The 7 Bad Habits of Islamic Funds Bernardo Vizcaino, CAIA

Monday, July 27, 2009

The 7 Bad Habits of Islamic Funds
By Bernardo Vizcaino, CAIA

An occasional mistake in translating Arabic to English occurs with the word 'funds' which sometimes translates into the English language as 'boxes'. Nevertheless, it is a very accurate translation when it comes to Shariah compliant investment products. This is especially true when one considers the inhibited nature of their origination & manufacturing. Indeed they seem stuck in a box, constrained by some imaginary walls, being delivered in sporadic fashion with rather uninspired risk/return profiles. A sector that should be one of the strongest indicators of industry success in reality resembles a desert landscape, dry in ideas. New launches have understandably slowed in the backdrop of the global markets, but product diversity and sophistication still leaves much to talk about.

Some launches do shine, partly because of their pioneer status (often self-proclaimed) but also for their solitary existence, few others have deemed it worthwhile to follow on their ground-breaking footsteps. It seems that such inventive examples are like an oasis - a welcome sight for the thirsty investor but one that is not visited frequently enough. The fact is that their peers (either current or in the pipeline) are simply rare, product manufacturers apparently sucked into a quicksand of conformism. On the other end of the spectrum though, products which are deemed as innovative in nature are more likely to resemble a mirage - failing to deliver on their promise.

The culprits are scattered across the product development life-cycle, but these in turn highlight the great opportunities available in the marketplace for those willing to go the extra mile. Here we scrutinize several ‘objectionable’ habits found across the industry:

  • Comfort Zones
  • Beta in a Box
  • Headless Chickens
  • Re-Repackaging
  • One Size Fits All
  • Off-limits to Off-shore
  • Distribution Dreamland

Comfort Zones
This is embedded in the fund manager psyche, stick to what you know and don’t push the boundaries. In effect, the majority of Islamic funds remain focused on asset or country-specific mandates (i.e. Saudi Arabia, Kuwait, Malaysia, Indonesia) and if they choose to take a regional approach it is simply to follow an indigenous requirement of their local market. In the Gulf region the three must-have products remain a Saudi-equity, a GCC-equity and some money market fabrication (murabaha perhaps). The light at the end of the tunnel rests with sukuk funds as they have gradually gained popularity. Nonetheless, product differentiation is hard to come across, and herd mentality seems to remain as the order of the day.

Beta in a Box
Global mandates, despite their extra-large label, are similarly at fault having fallen head over heels for the classic top-down approach that has delivered mostly unexciting large caps: the 'expensive ETF' syndrome (market exposure - or beta - is not bad at all, as long as it is priced correctly). In a fund universe dominated by long-only investments it would seem imperative to move away from vanilla/sanitized solutions, placing greater importance on un-orrelation/sophistication. Some argue that as the credit crisis unfolds anything innovative is deemed off-limits. Nevertheless, the industry is chasing after brand names, labels, just plain monikers. Effectively, in the hunt for quantity and quality the product range is missing exactly those two aspects.

Headless Chickens
One might argue that boutiques often launch one specific or standalone product, mainly due to their limited resources and specific area of focus. However, this seems to be the norm even for large-scale operations and quite remarkably for some of the largest conventional players. With the exception of some established industry players, the concept of a product range is non-existent. Fund construction with a portfolio approach (i.e. what does an investor need to buy) is almost unheard of and secondary to the commission-fueled machine of product delivery (i.e. what can be sold to investors). The opportunity is there for crafting solutions that straddle multiple asset classes, as opposed to navigating through an array of dispersed offerings.

The hunt for a pure multi-manager solution continues, as current offerings struggle to justify their double fee structures (one at the single manager level and another at the fund of fund level). Then again, products following a global-diversified approach are uncannily similar, and they have all succeeded in diversifying away idiosyncratic risk but excess returns having been diversified away as well. The issue is worsened with in-house wholesale products, which carry an inherent bias towards selecting internal products (why choose those from competitors), the value of independent and objective fund selection is somehow lost in the marketfuelled noise.

One Size Fits All
A common misconception from industry outsiders is the notion that all Islamic investors are the same, a monochromatic approach that regrettably is present within the industry as well. It appears that it is far too complex to launch multiple share classes so as to simultaneously cater to: retail/institutional investors, specific currency-hedging requirements, liquidity preferences and management of dividends. The priority is to sanitize an offering with risk/ return characteristics often left totally unaddressed. How telling that the industry is mesmerized by the intricacies of some exotics yet separate share classes are shunned as if the balance of the cosmos might be somehow altered.

Off-limits to Off-shore
It is incomprehensible that one of the most important trade flows of the past few decades has not been openly acknowledged by participants in either side of the Indian Ocean. If one considers the various synergies between the GCC and Southeast Asia regions, it boggles the mind that cross-jurisdictional products haven’t become standard operating procedure. Dual listings are very rare and to add insult to injury a ready-made offshore jurisdiction lies underutilized in the extensive corporate infrastructure available in Labuan. Even offshore products (mostly real estate in fact) are far more focused on their tax efficiencies rather than the ability to be offered across various borders. Products seem to be eternally destined to be either onshore or offshore, but seldom both.

Distribution Dreamland
Distribution networks have proven effective in delivering products within their core markets (GCC and Southeast Asia) but are often ignored by institutions that lack an effective presence in these regions. A number of managers thus fail to address product distribution from the outset, instead opting to leave this crucial detail to the very end. Time and again, effectively reaching investors has been successful as long as an established network is already in place. For instance, the largest Syariah mutual funds in Indonesia are the newest launches (run by established non- Islamic fund houses) and DWS funds are distributed across the GCC via a conventional bank network. Joint ventures and distribution agreements should be customary, but for now this remains another unexplored trend in the industry.

Bad habits die hard, but great opportunities are available to those willing to break the mold. Some of these habits will persist far into the future but the industry will find it increasingly necessary to tackle each one of these limiting factors head on. In doing so, greener pastures will emerge in places where there was only but sand.

Article Link

<< Go Back to Archive

Today's Exclusives Today's Other Voices More Exclusives
Previous Opalesque Exclusives                                  
More Other Voices
Previous Other Voices                                               
Access Alternative Market Briefing

  • Top Forwarded
  • Top Tracked
  • Top Searched
  1. SEC charges 19 investment firms and one trader for breach of Rule 105[more]

    Benedicte Gravrand, Opalesque Geneva: The Securities and Exchange Commission (SEC) started a push to enhance the enforcement of Rule 105 of Regulation M last year to uncover hedge funds and private equity firms that have illegally participated in an offering of a stock after short selling it duri

  2. Fund managers, bullish on Europe, anticipate monetary policy separation of Fed and ECB[more]

    Komfie Manalo, Opalesque Asia: At least 202 fund managers with $556bn of assets under management said that while the European Central Bank (ECB) has eased its monetary policy that sent sentiments towards Europe to pick up, the Fed is expected to hike its rate in the spring of 2015. Investor

  3. Institutions - North Carolina workers call on state pension to dump up to $6bn in hedge funds, UK pension fund criticizes hedge fund fees[more]

    North Carolina workers call on state pension to dump up to $6bn in hedge funds From The State Employees Association of North Carolina this afternoon called on state Treasurer Janet Cowell to withdraw all investments in hedge funds, which appear to amount to approximately $6 b

  4. News Briefs - Limited partners of investment managers may be subject to self-employment taxes, Just one week left until NYC's Rocktoberfest[more]

    Limited partners of investment managers may be subject to self-employment taxes On September 5, 2014, the Internal Revenue Service (“IRS”) issued Chief Counsel Advice 201436049, concluding that members of an investment manager were subject to self-employment taxes with respect to their e

  5. Institutions - Adviser's faith in hedge funds unshaken by CalPERS' move Advisers weigh in on CalPERS’ decision, Gina Raimondo sees no reason to follow California’s lead, exit hedge funds, Danish pension funds step up 'alternative investments'[more]

    Adviser's faith in hedge funds unshaken by CalPERS' move From Financial advisers who use hedge funds in their clients' portfolios say they aren't rethinking that approach after a huge California pension fund announced plans to exit the hedge-fund market. The decision by the Cali