Much has been said about what is right and what is wrong within Islamic finance, but every so often one must admit that while we scrutinize the current events and immediate developments (mostly in the short term) we tend to lose sight of the long term objectives of the industry (i.e. where it is heading). At times however, it seems that in discussing the more immediate aspects of the industry one forgets about its long term viability and sustainability.
Not long ago I was attending a particular event where various practitioners took to the stage to talk about Islamic finance (or to be more precise to sell us their services). The whole episode left me with much to think about in terms of who is representing Islamic finance (since the 'pitch' was aimed squarely at the local government and regulator). This wouldn't surprise the seasoned industry veteran (advertorials are an almost daily occurrence), but this takes on greater importance when we place this in the context of the new markets where Islamic finance is nascent and gradually opening up.
It begs the question - what are the priorities of these individuals/institutions? While I run the risk of being accused of naiveté (after all we all have to look after our business interests), it appears that their short-term financial/business gain takes priority at the expense of the long-term health of the industry. A few things to consider:
Most of the presentations during this event had nothing new: sukuk, tawarruq, riba, Shariah boards, etc, etc. What was conspicuously missing was any mention of some rather significant issues that should be discussed openly (if not candidly): but not a word about Nakheel, Blom Bank, OIC rulings, or the huge magnifying glass that is currently set on top of asset-based sukuk. Everyone has the right (and professional duty) to market their products and services, but we should encourage the disclosure of the various industry issues (at the very least to illustrate that we have learned from these bumps in the road). One thing that has remained constant in our discourse is the need to be open, frank, and practical in our comments and suggestions. Some will argue it is transparency and eventually this leads to something equally important: credibility.
Another aspect of disclosure pertains to which Islamic finance model (if any) does a particular country follow (again this is much more important for frontier markets where Islamic finance is just taking hold). Nonetheless, very little was shared in this regard but it comes down to whether a country follows one of these:
There is absolutely nothing wrong with either one of these, but they cater to very different markets and situations. One might work for Brazil while the other might work for Bermuda. Similarly, there are various exceptions such as the vibrant London and UAE markets (for the individual SSB model) which exhibit volume and visibility (although at the expense of higher costs). Again, it should be left to the policy makers to make these decisions, although what is necessary is for them to hear from all viewpoints (this is often not the case).
For the record, my preference is for the umbrella model mentioned above. It might be more elegant and cost-effective but what is far more enticing is how it engages the entire community of capital market participants. Hence Islamic finance is not privy to a few specialized funds houses, instead it is open to any financial institution that wishes to explore this 'alternative' finance. It simply makes more sense, especially when one deals with markets that contain significant capital market activity. Regardless, the point here is that one needs to assess and explore all options - and this is especially true with new markets (as they can start from a clean slate).
There will always be a learning curve and we are not advocating placing an undue burden on service providers for them to educate governments, regulators or new entrants at large. These new market participants need to do their homework as well. Even a superficial analysis of the industry would yield many of the issues that have been highlighted earlier but unfortunately this is lost when hearing from industry experts that are advocating one point of view and this can have an undue influence on policy makers. Some might not the most industry-savvy individuals out there or they might be driven by political motives rather than strategic reasoning. A balanced presentation of the industry would be most refreshing, alongside an objective digest from the audience. Hence due diligence is vital and it is a two way street - it is not just about asking questions (even if they are simple ones) it is about asking them to the right sources (and on the overall quality of these answers).
To illustrate, the following points (or rather incomplete arguments) were made during the event:
It is very clear, and overtly encouraging, that in the next few years we will have Islamic finance springing in various new markets. In some cases this will be at great expense to the first movers in those markets. Nevertheless various other service providers and market participants will follow suit. The risk is that the upfront costs will be overtly high, the obstacles numerous and the benefits limited. Hence we might not see Islamic finance endure after this short honeymoon period.
Certainly not advocating spoon-feeding and/or baby-sitting these new entrants, yet we want to see the industry expand in a sustainable fashion not degenerate into a downward spiral. At the moment it seems that certain service providers are engaged in short term tactics at the expense of long term viability. In fact some seem to have a love affair with complexity (the more moving parts the better), giving priority to SPV-rich instruments and promoting commission-laden structured products, while simple and perhaps more 'natural' products are sidelined. A more pragmatic approach should be expected (if not demanded) from those individuals who we deem as guardians and representatives of the industry.
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Opalesque Islamic Finance Intelligence
Wednesday, April 28, 2010
Editor's Note: Disclosure, Due Diligence & Death Spirals By Bernardo Vizcaino, CAIA