Islamic investment funds are at a cross-roads
Global assets under management in shariah compliant investment funds have remained static for the last couple of years, underperforming the market as a whole. However, according to Ernst & Young this does not reflect low demand or lack of potential. The Islamic fund industry needs to come up with new strategies and introduce new business models in order to tap into a growing market.
Ernst & Young has launched the 2010 edition of its Islamic Funds and Investments Report (IFIR) 2010 with a seminar in Luxembourg. The conclusions of the report indicate that the industry must go back to the drawing board if it hopes to create economies of scale in Europe. The key messages are that:
- the Islamic fund industry needs to evaluate new strategies to re-stimulate growth: AUM in 2009 remained flat, and new fund launches were matched by fund closures, during a period that saw the potential wealth pool grow by 20%;
- achieving scale is even more critical to ensure long term sustainability: over 70% of fund managers fall below an estimated break-even point of 80-100m USD under management;
- introducing flexible business models could help in adapting to investors’ changing preferences: leading fund managers are actively seeking to optimise operational flexibility and market reach in terms of fee structures, geographical distribution and product offerings;
- the immediate priority is to rebuild investor trust. This includes transparency in cost and revenue structure.
The good news is that annual management fees have come under the same pressure as conventional funds, falling steadily since 2006 to average 1.15% in Q1 2010. However, the non-viable size of most asset managers is likely to lead to consolidation in the market – and more fund closures.
The Cayman Islands leads non-Islamic markets in terms of AUM, due to its historic ties with the alternative investment fund market and the fact that many Islamic investors are not used to paying tax. However, here again a trend in the conventional market is reflected in the Islamic finance area: there is migration of funds to an on-shore, regulated domicile. Luxembourg has picked up a lot of this business.
The two markets with serious AUM are Saudi Arabia and Malaysia, both of which have successfully tapped into the retail market. “The other markets lack asset gathering capability” confirmed Mark Smyth of Amanie Islamic Finance Consultancy and Education, speaking as a member of the discussion panel. The implication is that this market will not achieve critical size until and unless, either, major European retail banks start to sell investment products, or, institutional investors appear in the form of private banks or takaful operators (similar to life assurance savings schemes).
The global sukuk (Islamic bond) market has been very quiet since 2009 but is picking up. The relationship between institutional investors and the sukuk market is close: takaful companies and wealth managers need liquidity in the sukuk market, and their activity would stimulate more issues.
Looking at the opportunities for Luxembourg, Elie Flatter of the Luxembourg Central Bank stated that the option of a Luxembourg sovereign sukuk issue was “still under consideration”. In this context, an interesting comment was made concerning the regional sukuk issued by Germany’s Sachsen-Anhalt: the issue was “expensive” and “complicated to manage”. However, it had paid huge dividends in PR terms, resulting in closer business relations with GEC countries.
Islamic finance business in Luxembourg is picking up again, as witnessed by a show of hands from delegates present at the seminar. Speakers noted two areas in which Luxembourg could leverage a natural advantage. One is expertise and reputation in product distribution; that is, access to the mass affluent market through cross-border marketing and to HNWI through private banks: wealth managers do not lightly select a Gulf based investment fund for their clients. Another interesting suggestion was that Luxembourg focus more on the shariah compliant trust structure, the Awqaf. ER