Malaysia and Hong Kong have ambitous plans to develop sharia compliant finance, amid cross-border initiatives. Our roundtable participants in Kuala Lumpur discuss the opportunities fund passports present, how Islamic funds have been received in the world and how to market them to mainstream investors. Chaired by Stefanie Eschenbacher.
Hisham Abdul Rahim (Independent consultant)
Gerald Ambrose (Aberdeen Islamic Asset Management, chief executive officer)
Sandeep Singh (Franklin Templeton GSC Asset Management, country head Malaysia, and chief executive officer)
Datin Maznah Mahbob (AmInvest, chief executive officer)
Angelia Chin-Sharpe (BNP Paribas Investment Partners Malaysia, chief executive officer, country head, Malaysia)
Funds Global: Mainstream investors are sceptical of sharia-compliant funds, and some asset managers have chosen not to market their funds as such. How do you plan to capture their interest?
Gerald Ambrose, Aberdeen Islamic Asset Management: It is not about religion, it is about performance. The industry needs to build a solid track record.
Angelia Chin-Sharpe, BNP Paribas Investment Partners Malaysia: Sharia-compliant investment is just another style, using specific criteria for selecting stocks and bonds. We have sharia-compliant Ucits funds that are being distributed throughout Europe. It comes down to awareness and investor education. Sharia-compliant investment is similar to socially responsible investment.
Hisham Abdul Rahim, independent consultant: Sharia-compliant funds can be marketed as socially responsible investments, and as underweight financials. The words Islam or sharia-compliant do not have to be used. The Amana Income Fund and the Amana Growth Fund, managed by Saturna Capital in the US have net assets of more than $1.6 billion and $2 billion, respectively. Although they do qualify as sharia-compliant, they are not marketed as such. Once funds perform well and this is recognised by ratings agencies – the Amana Income Fund and the Amana Growth Fund has an overall Morningstar rating of three stars and four stars, respectively – investors will invest in them whether they are seeking sharia-compliant or not.
ACS: Even on an investment level, there is no strict separation between conventional and sharia-compliant investments. Global bond managers often select sukuk for their portfolios. Sukuk is simply another form of securities structure and as long as it can deliver returns and is suitable for investment then conventional managers will invest in sukuks.
GA: Prudence and resistance towards investing in financials has paid off for sharia-compliant funds. Conventional global funds used to invest heavily in banks, but they were hit during the financial crisis. Fund managers and their investors are beginning to seek sharia-compliant investment to avoid these areas.
ACS: The whole sukuk market remained resilient despite the sell-off elsewhere during the financial crisis.
Datin Maznah Mahbob, AmInvest: Investing that incorporates financial ethics is not only about selecting fewer banks but also about selecting companies with less leverage. Sharia-compliant funds have become a safe haven because they will be less vulnerable to the effects of tapering and rising interest rates.
HAR: In Malaysia, sharia-compliant funds are marketed to Muslims and non-Muslims alike.
ACS: In Malaysia, Islamic banks operate alongside non-Islamic banks so there is an acceptance of sharia-compliant funds and other services. The regulators here deserve credit – they played a key role in educating investors.
SS: We have registered our Luxembourg-domiciled sharia-compliant funds in a couple of countries, including Switzerland and France. Despite the similarities with socially responsible investment, selling sharia-compliant funds to mainstream investors does require persistence and patience.
FG: Hong Kong and Malaysia have vowed to enhance its cross-border partnership on the Islamic capital market. What possibilities does the mutual fund recognition between Hong Kong and China present?
ACS: Hong Kong is an international financial hub so, hopefully, the memorandum of understanding between it and Malaysia will lead to funds being registered easily in Hong Kong. This would allow asset managers to tap into the Chinese market.
SS: The Greater China market is huge. So the mutual fund recognition programme between Hong Kong and China provides Malaysia with a lot of potential, if the partnership comes to fruition.
HAR: It is a symbiotic relationship. Malaysia can tap into Hong Kong’s position as a an international financial hub and Hong Kong can tap into Malaysia’s expertise in Islamic finance to offer complete offering of financial services – conventional and Islamic.
FG: The Securities and Futures Commission in Hong Kong has repeatedly stated that it is keen to develop its Islamic finance market, but how have Malaysian Islamic finance funds been received elsewhere?
SS: Malaysian funds tend to have a significant home bias; single country funds, be they equity or fixed income funds, will always appeal to only a limited audience.
DMM: This is true not only for sharia-compliant funds but also for conventional funds, especially in emerging markets. The pattern is still local fund for local investors. There are also often regulatory barriers to investing abroad, which is why asset managers often struggle to achieve scale. Having said that, most of the developed markets are able to invest on a much broader scale. Malaysia is a lot more open than most of its neighbours and regional rivals, like Indonesia.
GA: Some established, global asset managers are facing internal problems distributing their sharia-compliant funds into the Middle East. A large percentage of Aberdeen Asset Management’s assets are coming from the Middle East, but we do not want our Islamic arm to go out trying to sell too aggressively and cannibalising existing assets. One challenge is identifying who among our clients are Muslims – we do not have that sort of data.
The Middle East is recovering from the recession and the Arab spring, thus the Islamic finance sector has also started to recover. There are new banks that have started setting up Islamic windows, starting with retail products such as housing finance and personal finance. Unit trusts will be a natural next step: they need to establish basic products first and see how they gain traction. Malaysia’s experience is mainly local and regional, and it is the largest sukuk market. Malaysia must tailor the investments to suit the needs of Middle Eastern investors as their requirements differ, sometimes significantly.
FG: How do the preferences among Malaysian and foreign investors differ? Whereabouts in the world do you see interest in Islamic finance funds from Malaysia and from whom?
HAR: Equity funds tend to get this buy-in more easily than sukuk funds. One can tailor-make a sharia-compliant equity filter that the Middle East sharia advisors are comfortable with, and build a fund with the portfolio of equities that get past the filters. However, for a sukuk fund, each individual sukuk must get the approval of the sharia advisors and there are certain sukuk structures we have in Malaysia which certain Middle East sharia advisors feel are not sharia-complaint to their standards.
ACS: When it comes to managing a global sukuk, most of our clients’ mandate or fund is in dollar. In view of this and as guided by our clients’ requirements, our investments for such portfolios are in dollar issuances, predominantly issued from the Middle East.
HAR: There are some Middle East sharia advisors, like the sharia advisors for Al Rajhi Bank, which will reject global sukuks that are not structured according to the sharia principle that it is supposed to follow. If these were put into a global sukuk fund, the fund would be rejected by this sharia advisor.
DMM: Institutional investors prefer local assets for reasons of matching liabilities, but are increasingly diversifying. This is true for conventional investments and sharia-complaint ones.
SS: There are similarities when it comes to serving investors in Malaysia, south-east Asia, as well as the countries that belong to the Gulf Cooperation Council: a large home bias, to some extent, a regional bias and limited awareness of investing in funds.
ACS: Most importantly, investors will look at performance. Local asset managers will be able to compete with global asset managers as long as they are able to outperform their peers. They have the ability to have their funds distributed on a global platform. When it comes to sharia-compliant funds, Malaysia has an edge because its assets managers have a true understanding of sharia-compliant investment and have established a track record. Ucits is the most recognised fund structure globally.
Ucits is still the preferred platform if a Malaysian fund management company would like their products to be well received in the global platform.
DMM: In sharia-compliant investment, there is always a risk of a bias toward emerging markets. In that sense, even a sharia-compliant fund labelled global is not really global. This translates into a higher risk, because investors are essentially buying an emerging market fund. Risk and the difficulty of constructing a portfolio in line with the asset liability requirements may put off many institutional investors.
GA: We manage some regional unit trusts on a white-label basis for Middle Eastern banks where their own sharia advisers provide a list of stocks to choose from.
SS: White labelling is definitely an option for local asset managers, and to an extent, global ones. One of the challenges is setting up the distribution footprint, which is expensive and takes time. Global asset managers have an edge because they can use their distribution network, although local asset managers tend to have stronger links with domestic banks, which often dominate the local distribution network.
DMM: We have partnered with global asset managers. We find the best-selling funds offer regular income and low-risk.
SS: Another challenge is to get the buy-in of the Middle East institutions’ sharia boards.
FG: How will the Asean Fund Passport and the Asian Region Funds Passport change the market dynamics?
DMM: It is taking longer to have Ucits funds approved, but a sharia-compliant fund domiciled in Luxembourg is more likely to get approval in Asia.
ACS: These fund passport schemes steps into the right direction but they have not been tested yet. If Malaysian funds are distributed in Hong Kong and there were some issues with the fund manager, what would the legal recourse in Hong Kong be? We have not received any clarity, and there has not yet been a precedent case that shows how these issues could be resolved.
DMM: Regulators in Malaysia are uncomfortable with the derivatives part of Ucits funds. Ucits guidelines are meant to protect investors, but Asian regulators are more conservative. Sharia-compliant funds would not use derivatives anyway, even if they were sold through Ucits structures that allows derivatives.
HAR: There is limited use of derivatives, if any, in sharia-compliant funds – sharia-compliant funds are plain vanilla.
SS: Ucits is still the most widely used structure among asset managers pursuing an international distribution strategy.
ACS: Ucits is well-recognised in the sense that guidelines are in place and those for the proposed fund passport schemes are not.
HAR: The Malaysia International Financial Centre (MIFC) and the regulators have been in dialogue with European jurisdictions to explore ways they could collaborate. Malaysia already has agreements with Dubai and Hong Kong, and is eager to promote Islamic finance elsewhere.
GA: While fund passports are an interesting development, there are probably not many unit trusts registered in Singapore and Thailand that are particularly attractive to people in Malaysia. There are also controls when it comes to how much asset managers can invest outside Malaysia, which needs to change if asset managers want to compete internationally.
SS: The question is, how many investors in Singapore want a pure Malaysian equity or fixed income fund? And if Malaysian asset managers highlight their expertise in Asia, or globally, how many players in Singapore do that already? Malaysia’s edge is in sharia-compliant investing so the passport scheme would benefit this part of the industry more than any other group.
ACS: Malaysia needs to open its doors further, otherwise it will not be able to compete with the likes of Singapore and Hong Kong.
The last five years has seen Bursa Malaysia expand by 184% in terms of market capitalisation, diversity and multinational growth. How does Islamic finance fit into this picture?
GA: Islamic unit trust have seen high growth in recent years; between 2010 and 2013 alone, their assets under management increased fourfold.
HAR: Sharia-compliant securities accounted for 60.5% of the market capitalisation on the Bursa Malaysia at the end of December last year. With 184% of growth of market capitalisation, diversity and multinational growth, a large proportion would have come from sharia-compliant securities.
SS: About 70% of securities in Malaysia are eligible to be labelled sharia-compliant, according to the latest methodologies by the Securities Commission Malaysia. There is a direct correlation between the growth in the wider market and the Islamic capital markets. As markets evolve, the acceptance of unit trusts also increases.
DMM: Securities listed on the Bursa Malaysia do not only employ ethical screening but also financial screening, which takes into account factors such as debt and liquidity ratios as well as the terms under which the money is placed. Some 88% of those stocks pass the financial screening. This encourages the growth of Islamic finance: more sukuk is issued, because it helps the issuer to manage debt ratios, and more money is placed in sharia-compliant money market funds.
GA: Growth in Islamic finance in Malaysia is not duplicated in other nations. The MIFC helped by building a legal infrastructure and issuing guidelines.
SS: The industry was close to $30 billion at the end of 2013; Islamic unit trusts or wholesale funds and sharia-compliant separate mandates represent over 16%.
GA: We are in the process of acquiring an asset management business in Indonesia and it is exciting that we might be able to find a route for distributing our sharia-compliant services there.
ACS: The regulators – Bank Negara Malaysia and the Securities Commission Malaysia – work closely. They produced robust guidelines for the Islamic capital market to flourish and for Islamic institutions to understand how to do business. There are guidelines to define sharia-compliant securities and platforms, like takafuls [insurance structure], Islamic asset managers and banks. The government and regulators have created university courses on Islamic finance.
FG: In 2008, Malaysia released a financial sector plan that sets out recommendations to create an efficient, progressive and comprehensive financial system. How much progress has been made? What else could be done?
SS: There are already more than 200 Islamic funds in the Malaysian market, making it one of the largest domiciles in the world for Islamic funds alongside Saudi Arabia and Luxembourg. Malaysia is an important jurisdiction, and becoming more so.
HAR: Malaysia has started to embrace global standards with respect to sharia screening for equities as adopted by the securities commission. However, on the sukuk side, lot more work needs to be done to ensure that structures like musharakah [a joint venture] and ijara [leasing] are structured according to the principals of a joint venture and leasing respectively so that it will be universally accepted, especially by sharia scholars.
SS: Malaysian prime minister Najib Razak announced it will be possible for foreign corporations to own 100% of unit trust management business. Malaysia is opening up and is pursuing other initiatives. Malaysia, Singapore and Thailand are working together on a fund passport, which is due soon. Malaysia has reciprocal agreements with Dubai and Hong Kong, and is in an active discussion with other jurisdictions.
SS: The government is encouraging large institutional investors to support the Islamic fund management by awarding mandates to help managers reach the required scale.
GA: There are discrepancies in interpretation when it comes to what is and what is not sharia-compliant. Apart from musharakah and ijara, the other structures those in the Middle East do not buy – salam and istisna [financing], for example.
HAR: Malaysia has been talking about setting up of a mega Islamic bank with a €1 billion market capitalisation for a long time. With the proposed merger of CIMB Group, RHB Capital and Malaysia Building Society, there is now talk that a mega Islamic Bank may be formed. Only time will tell if a mega bank will materialise.
GA: The Securities Commission in Malaysia is doing the right thing by seeking alliances in the region. We appreciate the help from the commission in helping us to sell products outside of Malaysia.
ACS: There is a need for the regulators to gradually start to lift restrictions to allow a greater flow of products into the country, and ensure there will be enough products to satisfy the needs of high net-worth and affluent investors. If this can happen, Malaysia will be in a position to compete with other wealth management hubs.
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