A closer look at Shariah ETFs

Despite thriving and affluent Islamic communities across Europe and North America, Muslims living in these regions have traditionally been underserved when it comes to investment. The reason for this is that managing investments according to Shariah principles (the moral code and religious law of Islam) can be incredibly time consuming since the vast majority of investment decisions need to be pre-approved by Islamic scholars.

Shariah-compliant exchange-traded funds (ETFs), which provide low-cost exposure to conventional equity markets while strictly adhering to Shariah investment principles, provide a much-needed solution to this problem.

Offered by providers such as db X-trackers andiShares, Shariah ETFs are benchmarked to indices that apply a series of trade activity and financial screens to weed out non-compliant companies. The screening process is typically overseen by leading Islamic scholars and results in a portfolio of securities in adherence with Shariah law.

While these products have been gaining some traction lately, many investors may not know that these products exist or may be cautious to get involved as the actual Shariah methodology remains somewhat foreign. For those wary of the methodology, it will come as a welcome surprise to hear that the screening and compliance criteria are actually relatively straightforward.

Underlying almost every ETF, of course, is an index. Most of the major index providers offer Shariah-compliant indices created under the guidance of advisory boards comprised of experts in Islamic Law, often representing multiple countries and various schools of Islamic thought. The screening process varies from index to index, but generally Shariah indices exclude businesses with trade activities in the following industries: alcohol, gambling & entertainment, pork, tobacco, and financials, with the exception of Islamic banks, Islamic financial institutions and Islamic insurance companies.

Perhaps surprisingly, the classification of weapons, arms and defence manufacturing firms is the only aspect of the screening process that is not entirely clear cut (although most index providers lean towards the sector’s exclusion).  For example, FTSE, directed by Yasaar, the index provider’s Shariah consultant, takes the view that the industry is non compliant. By contrast, S&P, guided by its supervisory board of Islamic scholars, takes the view that weapons can be used for both permissible (self-defence) and non-permissible (unprovoked aggression) purposes; the weapons themselves are neutral and hence the manufacturing of weapons is considered permissible.

Certain indices, such as the S&P Shariah Indices, also screen against genetic cloning, gold and silver cash trades, and advertising and media companies. That said, news and sports channels are permitted, as are media and advertising companies generating greater than 65% of revenue from member countries of the Gulf Cooperation Council (Bahrain, Kuwait, Oman, Qatar, Saudi Arabia, and the UAE).

After screening out companies with non-compliant trade activities, there are typically a number of accounting/financial screens that potential constituents are then subject to. Only those companies that pass certain financial ratios relating leverage (highly indebted companies are excluded) and interest income (interest-bearing investments are banned under Shariah law) will be considered Shariah compliant. As an example, MSCIanalyses total debt over total assets; cash and interest-bearing securities over total assets; and accounts receivables and cash over total assets. If any of these ratios exceed 33.33%, the company is excluded.

How does this all add up for investors? The results of the activity screens have a few potential effects to look for. The removal of alcohol and tobacco companies tends to increase the beta moderately, as these are core consumer staples industries with dependable revenue streams. However, the removal of entertainment, advertising, media and gaming (casino) companies tends to lower the cyclicality of the fund, reducing beta. Broadly speaking, these exclusions net off.

In addition, the removal of tobacco, alcohol and (as is the case with most Shariah indices) defence companies, reduces the political risk, as these industries are often subject to the political whim of politicians.The major difference compared to conventional indices is the application of financial/leverage screens. By excluding companies with high levels of debt, the resultant portfolio has lower financial risk and superior credit fundamentals.

Overall, Shariah ETFs have demonstrated lower volatility than their non-compliant counterparts and have tended to outperform over the past few years (see chart comparing S&P Shariah 500 with S&P 500). This is likely due to the more defensive nature of these funds, a style which has been in favour of the past few years. Of course, Shariah ETFs are not restricted to Muslim investors. Indeed, non-Muslims may see these funds as an attractive, less-volatile alternative to conventional index-tracking ETFs.

Manooj Mistry, Deutsche Bank’s head of exchange-traded products, EMEA, said: “Shariah ETFs are one of the easiest ways for investors to make a Shariah-compliant investment, with all the usual benefits that ETFs provide, such as transparency and low fees. It’s fair to say today that the market hasn’t lived up to the hype of several years back, when some predicted an explosion in demand for Shariah investments in general. If the market does start to pick up again however, then Shariah ETFs will hopefully be one of the first instruments potential investors look to.”

For investors looking to get in on the ground with Shariah-compliant ETFs, a range of options are available. Deutsche Bank’s db-X trackers and BlackRock’s iShares are the leaders in this space, together offering exposure to world, US, European, Japanese and emerging market equities.

For core global exposure, the iShares MSCI World Islamic ETF (ISWD) and db X-trackers DJ Islamic Market Titans 100 UCITS ETF could represent solid portfolio holdings. The iShares MSCI World Islamic ETF is listed on the London Stock Exchange, Deutsche Börse, NYSE Euronext Amsterdam and NYSE Euronext Paris, and tracks the MSCI World Islamic Index via a physical replication process. This fund comprises 561 holdings across 22 countries. The db X-trackers DJ Islamic Market Titans 100 UCITS ETF tracks the DJ Islamic Market Titans 100 Index via a swap-based replication process and is listed on the London Stock Exchange, Deutsche Börse and Stuttgart Stock Exchange. This fund comprises 100 global Shariah-compliant blue-chip stocks across 15 countries. 

(Etf Strategy / 14 Feb 2013)

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Alfalah Consulting - Kuala Lumpur: www.alfalahconsulting.com
Islamic Investment Malaysia: www.islamic-invest-malaysia.com

Malaysia: Bank Negara Malaysia (BNM) issues Shariah standards on Mudarabah

KUALA LUMPUR: Bank Negara Malaysia (BNM) has issued the Shariah standards on Mudarabah to all Islamic financial institutions under its purview.

BNM said on Monday the issuance of the Shariah standards on Mudarabah was an important milestone and was part of its continuous efforts to strengthen the Shariah and regulatory framework in Malaysia.

"The standards would serve as guidelines for the Islamic financial institutions in developing Islamic financial products and services based on Mudarabah," it said.

The central bank pointed out the Shariah standards on Mudarabah was to provide a standard on the features of mudarabah contracts applicable in Islamic financial transactions.

"The Shariah standards on Mudarabah also outlines the mandatory and the optional features applicable to the mudarabah contract in which the Islamic financial institution would be required to observe such requirements in developing Islamic financial products and services," said BNM.

(The Star Online / 22 Oct 2012)

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Islamic Investment Malaysia: www.islamic-invest-malaysia.com

Malaysia: Syariah-compliant small cap index launched

KUALA LUMPUR: FTSE Group and Bursa Malaysia have launched the FTSE Bursa Malaysia Small Cap Shariah Index to complement the existing FTSE Bursa Malaysia syariah indices.

In a joint statement, it said the new syariah index was designed to provide investors with a precise benchmark for syariah-compliant investment in Malaysian small cap companies.

The FTSE Bursa Malaysia Small Cap Shariah Index was developed in response to the needs of market practitioners who noted the lack of a benchmark to track the performance of syariah-compliant small cap companies. Constituents are selected from the universe of the FTSE Bursa Malaysia Small Cap Index according to the Malaysian Securities Commission's Shariah Advisory Council screening methodology.

The index is based on FTSE's award winning methodology which includes free float adjustment and liquidity screens and is managed in accordance with a clear and transparent set of index rules governed by an independent index committee.

The new FTSE Bursa Malaysia Small Cap Shariah Index forms part of the FTSE Bursa Malaysia Emas syariah universe and will be calculated on an end-of-day basis. Subscribers to the FTSE Bursa Malaysia Index Series will receive the new index as part of their existing data package at no extra cost.

(The Star Online / 17 Oct 2012)

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Islamic Investment Malaysia: www.islamic-invest-malaysia.com

Philippines to Draw Up Shariah-Compliant Stocks List

The Philippine Stock Exchange (PSE) is drawing up a list of Shariah-compliant equities to attract the nation’s Muslim investors and $1.2 trillion of investible funds in the Middle East.

The exchange is holding consultations and workshops with the Al-Amanah Islamic Investment Bank of the Philippines, government agencies and the Asian Development Bank on standards for Shariah-compliant stocks, Leo Quinitio, head of the bourse’s capital-markets development division, said in an interview.

“There’s a large pool of investible funds in the Middle East that invest only in Shariah-compliant stocks or companies that meet Muslim doctrines,” Quinitio said in Manila yesterday. “We are working on this and hopefully by the first half we will have a list.”

The Philippine Stock Exchange has sought to introduce new products, including real estate investment trusts and exchange traded funds, to boost trading in Asia’s 12th-largest stock market. The nation’s equities have a market value of $209 billion, or about equal to Nestle SA (NESN)’s capitalization, according to data compiled by Bloomberg,

Trading on the Philippine stock exchange has averaged 5.86 billion pesos ($141 million) a day this year, 22 percent more than 2011’s average, the data show. The Dow Jones Islamic Market World Index (DJIM) of companies that meet Islamic guidelines has surged 13 percent this year, outpacing an 8.3 percent gain by the MSCI Asia Pacific Index.

NO ALCOHOL

Quinitio said Muslims are restricted from investing in companies that violate Shariah doctrines, which forbid the engagement in activities deemed unethical such as gambling, production of alcohol and armaments. There are also restrictions on interest-related income, he said.

Apple Inc., Exxon Mobil Corp. and PetroChina Co. are the three biggest Shariah-compliant companies by market value that Muslims can invest in, according to data compiled by Bloomberg.

Drawing up a list of Shariah-compliant stocks can be “very difficult,” according to Abdul Jalil Abdul Rasheed, chief executive at Kuala Lumpur-based Aberdeen Islamic Asset Management.

“One of the challenges is how detailed do they want the standards to be and this can make the work intensive,” Rasheed said. “Do you want it to be 100 percent compliant or have a tolerance level of say 5 percent of earnings come from non-halal business? The other challenge is do you want the financing of the business to be shariah-compliant as well?”

OVERSEAS BUYING

The Philippine exchange is working with the National Commission for Muslim Filipinos to form a Shariah advisory council, Quinitio said.

“There are no signs so far that investors’ interest in the Philippines has waned,” he said. “The market is enjoying a good momentum.”

Overseas investors bought a net $2.19 billion of Philippine equities this year to Sept. 20, compared with $1.33 billion of purchases for all of 2011. The benchmark Philippine Stock Exchange Index (PCOMP) has rallied 21 percent this year and closed at a record on July 5 amid optimism about the nation’s economic growth prospects.

The $1.3 trillion Shariah-compliant finance industry is expanding globally at an average annual rate of 15 percent, according to a June report from Malaysia’s Securities Commission. The Islamic Financial Services Board in Kuala Lumpur predicts the market will reach $2.8 trillion by 2015.

Islamic assets account for about 1 percent of global financial market, according to a March 2012 publication of the UK Islamic Finance Secretariat. The largest centers remain concentrated in Malaysia and the Middle East, including Iran, Saudi Arabia, United Arab Emirates, Kuwait, Bahrain and Qatar, according to the report.

(Bloomberg / 21 Sep 2012)

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Islamic Investment Malaysia: www.islamic-invest-malaysia.com

South Africa's FNB to appoint new sharia board by year-end

* Sharia board resigned in July after disputes over role

* FNB Islamic division plans expansion in Africa, India

By Xola Potelwa

JOHANNESBURG, Aug 28 (Reuters) - South Africa's First National Bank (FNB) aims to appoint a new sharia board for its Islamic finance division by the end of 2012, after the previous board dealt a blow to the bank's effort in the sector by resigning a month ago.

"It's top priority for us. We are certainly aiming to have our final committee together towards the end of the year," Amman Muhammad, chief executive of FNB Islamic Finance, told Reuters late last week.

Muhammad joined FNB's Islamic finance division on July 1. The previous head, Ebrahim Patel, resigned after the bank conducted an investigation into "internal processes and practices of the businesses aligned to internal governance practice", according to Eric Enslin, head of client management at FNB Wealth, who declined to elaborate on the investigation.

FNB's sharia advisors quit after disagreements over the board's role when the new management took charge of the division, according to former board members.

A bank's sharia board supervises the institution's products and activities and certifies that they comply with Islamic principles.

FNB said its new sharia board would probably be made up of scholars from local and international Muslim communities, as its Islamic finance division would leverage the bank's presence in India and the rest of Africa to grow there.

A new sharia board for FNB, the retail arm of South Africa's second-biggest bank FirstRand, could help its business by increasing consumer confidence in its Islamic products.

"(When) members of the community have no method to get confirmation or comfort from the sharia board, that puts them on guard. They say, 'I'm not getting information from the sharia board, do I continue to deal with the bank?" said South African businessman and FNB client Abdur Moosa.

FNB says Islamic finance is currently not a "material contributor" to its bottom line, but that it intends the business to expand its contribution in future.

BOUNDARIES

Muslims make up only about 2 percent of South Africa's population but the country is looking to establish itself as a centre for Islamic finance in sub-Saharan Africa.

There are no national rules for Islamic finance in South Africa - banks are subject only to conventional banking laws - so the Islamic operations of institutions such as FNB, Al Baraka and Absa are under pressure to demonstrate to the public that their sharia boards are effective.

"Up until we get to a point where we start seeing a concerted regulatory change to the way Islamic banks operate in the country, and defined governance standards specifically around the functioning and the role of sharia boards, we ensure ourselves that through the boards we have, sharia compliance is always adhered to," Muhammad said.

The bank says it has learned a lesson from the recent incident and will draft clear rules and roles for its new sharia board, which will not include approving the appointments of senior personnel - a point of contention with the previous board, according to bank sources.

"In the absence of terms of reference, everybody (wonders) what's the role of the board," said Enslin.

"What is really key is to ensure that there's proper terms of reference and a constitution in place, which will (ensure) roles are quite clear, and their accountabilities."

Businessman Moosa, who has been a client of FNB Islamic Finance for nearly all eight years of the division's existence, said he had not entered new transactions with the bank since the last sharia board resigned.

( Reuters / 28 August 2012)

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Islamic Investment Malaysia: www.islamic-invest-malaysia.com

UK: New legal set-up to pave way for syariah framework

Shying away from financial services that do not conform to their faith, British Muslims are now getting a new service to help them manage their finances in line with Islamic Shari`ah.

“Many of the traditional UK financial products involve receipt or payment of interest and as such are considered Haram (unlawful) for Muslims,” Shabab Gulfraz, financial consultant with Ummah Financial Planning, told Yorkshire Post on Tuesday, August 14.

“When looking at their financial arrangements, Muslims need also to consider how their money is invested and what drives the returns they are receiving.”

A new service financial service, called Ummah Financial Planning, has been launched by the accountants and business advisers Garbutt & Elliott in Yorkshire to help Muslims manage their finances in line with Shari`ah.

“There are very few specialist intermediaries in this market,” said Simon Holt, the managing director of Ummah Financial Planning.

“We want Ummah Financial Planning to go national, but initially the business will be based in Yorkshire.

“There are between two and three million Muslims in the UK, and around 25 to 30 percent of them live in West Yorkshire.”

Holt said the idea came after seeing that many Muslims could be steered away from financial services because of the absence of Shari`ah-compliant financial services.

“I worked alongside a Muslim scholar for nearly three years, supporting him in his work to bring more ethical financial products to Muslims in the UK and overseas,” Holt said.

“During this time, I realized that Muslims need specialist financial advice firms to be established which understand the culture, values and beliefs of the faith.

“This is where the idea for Ummah Financial Planning came from.”

Muslim Needs

The new financial service was issued after months of consultations with the Muslim community.

“The Ummah team have spent time consulting with the community to seek their advice on how best to engage with Muslims and brought in a specialist Muslim consultant to lead this work for them,” said Gulfraz, the financial consultant with Ummah Financial Planning.

“Many ISA, PEP, unit trusts and pension funds invest money in a mix of different assets including equities (shares), property, gilts (loans to the Government), corporate bonds (loans to companies) and cash (gilts, corporate bonds and cash are all interest bearing).

“Although these funds are professionally managed by teams of investment managers whose aim is to maximize the returns and create profit; they are often Haram (unlawful) for Muslims as they generate some of their profits from interest or investment into un-Islamic activities,” he said.

Islam forbids Muslims from usury, receiving or paying interest on loans.

Islamic banks and finance institutions cannot receive or provide funds for anything involving alcohol, gambling, pornography, tobacco, weapons or pork.

Shari`ah-compliant financing deals resemble lease-to-own arrangements, layaway plans, joint purchase and sale agreements, or partnerships.

Investors have a right to know how their funds are being used, and the sector is overseen by dedicated supervisory boards as well as the usual national regulatory authorities.

The launch of the new financial service in Britain was timed to coincide with the holy fasting month of Ramadan.

“Throughout this month, Muslims from all countries unite in a period of fasting and spiritual reflection,” Gulfraz said.

“All Muslims will spend time in this month reflecting on their individual faith and practices and reading from the Qur’an, with the aim of improving and strengthening themselves in accordance with the teachings of Islam.

“Ramadan is much more than just not eating and drinking. Muslims are called upon to use this month to re-evaluate their lives in light of Islamic guidance. Towards the end of this blessed month of Ramadan, Muslims are required to pay a fixed portion of their wealth to charity. When calculating the amount to pay, Muslims will take a detailed look at their financial arrangements.”

Britain is home to a Muslim minority of nearly 2.5 million.

Britain is the only country in the European Union to have Islamic banks. It is also developing its takaful market for Islamic insurance.

It also has a strong foothold in developing products such as commodity murabaha – Islam’s version of interbank short-term lending and syndicated loans.

(On Islam / 14 August 2012)

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Malaysia: Shariah focus for new fund

Bullish on the country’s economic resilience, CIMB Principal Asset Management Bhd (CIMB-Principal) has launched the CIMB Islamic Al-Azzam Equity Fund, a syariah-compliant equity fund which aims to achieve consistent capital growth over the medium to longterm period.

The open-ended fund will invest 70-98% of its net asset value in syariah-compliant Malaysian equities listed on Bursa Malaysia, made suitable for those seeking to have a portfolio of investments that adhere to syariah principles.

Deputy chief executive Munirah Khairuddin yesterday said: “We believe if we continue to invest in stocks with strong fundamentals that includes healthy cash flow, quality company balance sheets and strong dividend yields, the fund should be able to deliver consistent long-term capital gain.”

The fund investment focus will be on companies mainly in oil and gas, plantations and consumer discretionary sectors, she added.

With a minimum investment of RM500, even individual retail investors can have access to established companies such as Axiata, Tenaga Nasional Berhad, IOI Group and Digi, among others, said Munirah.

She said the fund managers believed these companies would exhibit above-average growth potentials relative to the industry peers despite a global slowdown.

Syariah-compliant unit trust funds continue to gain popularity even among non-Muslims, because the equity component of such funds can be less volatile and more defensive in nature, she added, as these elements help boost investors confidence when investing in the country.

“In recent months, markets have been receiving more funding for the Economic Transformation Programme and national budget programmes focused on economic growth,” she said, the country has attracted a fair bit of foreign funds, which seek a safe haven amidst current volatile Asian markets that has lifted Malaysia’s Price Earning Ratio premium contribution to the region to a high of 38%.

Additionally, the premium is also partly justified by the 11% higher Malaysian earnings per share growth contribution to the region.

The fund, with an approved fund size of 600 million units, is priced at 25 sen per unit during the initial offer period. It is distributed by CIMB Bank, CIMB Private Banking, CIMB Investment Bank Bhd – Retail Equities and CIMB Islamic Bank, with the initial offer period ending on Aug 21.

(The Malay Mail / 02 August 2012)

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Alfalah Consulting - Kuala Lumpur: www.alfalahconsulting.com
Islamic Investment Malaysia: www.islamic-invest-malaysia.com