At the end of 2013, KAE conducted a review of Islamic Finance in the UK Retail Market. This whitepaper pulls together a selection of the key findings of our research and provides an overview of recent trends, the theoretical market opportunities, in addition to the barriers and drivers to Islamic Finance in the UK Retail Market.
Islamic banking is growing globally at a rate of over 20% a year, as a greater proportion of the world’s 2 billion Muslims seek out finance that is compliant with Sharia laws. At the end of 2012, the global market for Islamic Finance was reported to be worth around US$1.3trillion, with US$19billion of assets reported in the UK alone.
Despite this, some banks have, or are, reconsidering their position in the Islamic Finance space. One example is HSBC, which has pulled its Sharia Amanah operations in the UK, the United Arab Emirates, Bahrain, Bangladesh, Singapore and Mauritius. Although HSBC claimed its Sharia products were profitable it has reportedly decided to close its operations due to a global re-focus on ‘core services’. There are also many challenges for Islamic banking in the UK, which include product integrity and the high costs associated with running Sharia accounts.
We believe that there is a theoretical opportunity for a bank to bring to market, clear and transparent Sharia-compliant products, that are approved by a number of Sharia academics, in order to take advantage of the growth in the number of both Muslims and non-Muslims seeking Sharia-compliant banking services (which also meet the definitions for ethical products almost by default).
We would be delighted to hear your thoughts and understand if there are any ways that KAE can support your business. Please do not hesitate to get in touch with us at [email protected]
What is Islamic Finance?
The term Islamic Finance refers to a finance system that is based on the principles of Islamic law (also known Sharia). The salient principle of Islamic Finance is the prohibition of interest (or ‘riba’). Under Sharia principles, money is not valuable in itself and no charge should be made for its use, which means that interest can neither be paid nor collected. Another principle under Islamic law is the sharing of profit and loss, and ultimately risk, between the parties involved.
The UK has been providing Islamic Financial Services for over 30 years:
The last decade has seen the UK Government develop policies that have created a fiscal and regulatory framework to encourage the growth of Islamic Finance:
On the basis of Islamic law, banks can operate four types of banking accounts:
1) Current accounts: Safekeeping accounts deposited for daily transactions where no return is paid to depositors and are also risk-free. These accounts are considered as ‘trust and safekeeping’. The banks can use the money as a trustee for short transactions on the bank’s responsibility, but not for any investment. Banks have to deposit in full or a part on the demand of the depositors. In some banks these are called ‘amanah’ accounts.
2) Saving accounts: Deposits in these accounts are accepted by Islamic banks like any traditional commercial bank, with a difference that no fixed or predetermined rate of return is paid. It is different from current accounts in the sense that it carries a risk element and a variable yield or return is attached to the principal amount on an annual basis.
3) Investment accounts: The primary goal of the depositors in these accounts is to earn profit. Principally, they are not concerned with safekeeping of their monies and use the deposits for transaction purposes only. These accounts are operated on the principle of Mudharaba al-Mutlaqa, where the depositor has to accept certain conditions:
a) A higher fixed minimum amount
b) A longer duration of deposits
c) Liability of the loss of some part or all of the funds in case any loss occurs to the investment venture. The Islamic bank acts as an entrepreneur on behalf of the depositor. The deposits can be withdrawn if an agreed advance notice is given to the bank.
4) Special investment accounts: These accounts are also operated under the principle of Mudharaba and these are directed to larger investors and institutions. The major difference between investment and special investment accounts is that the former can be used in any investment venture and the latter will be used in a specified large project or investment venture carried out by the bank. The maturity and distribution of the profits are separately negotiated for each special investment account. Higher fixed minimum amount, longer duration of deposits and liability of loss are essential articles of this contract.
The UK Islamic Finance Opportunity
Based on current data and forecasts, there appears to be a strong business case for UK banks to offer a full suite of Sharia-compliant Financial services:
- Islamic banking is thought to be growing globally at a rate of over 20% a year, as a greater proportion of the world’s 2 billion Muslims seek out finance that is compliant with Sharia laws
- The Global Islamic banking industry was expected to tip $1.1tn by the end of 2013, with $19bn of reported assets in the UK
- The UK is already the leading Western participant in Islamic banking (but mainly at a corporate or government level) – 22 of UK banks provide Islamic Finance services, six of which are fully Sharia compliant, and the Sukuk – or Islamic bond – market is growing. In the first half of 2013, $59 billion of Sukuks were issued, while 14 new Sukuks were listed on the London Stock Exchange (LSE) in 2012. There is now a total of 49 Sukuks, with a combined value of $34 billion, listed on the London Stock Exchange (LSE)
- The opportunity exists for banks to take a slice of these Sharia-compliant assets, which have grown by almost 50% in two years, from $826 billion in 2010 to $1.2 trillion in 2012, according to TheCityUK, the finance sector lobby group. The figure is expected to rise to $1.6 trillion by 2015
Drivers for demand
There are a number of factors driving demand for Islamic Finance in the UK:
Barriers to demand
However, there are no quick wins and it is essential to ensure that any products developed are compliant with Islamic law. We believe that a number of factors are present that will hamper demand for Islamic Finance in the UK
Why are banks withdrawing from UK Islamic Finance?
Despite the opportunities, some banks have or are considering withdrawing from the Islamic Finance space.
A notable example has been HSBC which pulled its Sharia Amanah operations in the UK, the United Arab Emirates, Bahrain, Bangladesh, Singapore and Mauritius. We understand that the pullback has not been driven by any reassessment of Islamic products, instead on broader economic grounds and the lack of scale compared to HSBC’s wider Finance operations.
HSBC will continue its Amanah offerings in markets such as Malaysia and Saudi Arabia, where Islamic assets represents a larger share of total assets. According to Bloomberg, the bank will remain a big player in Islamic corporate and investment banking; it is reported that HSBC is the world’s biggest issuer of Sukuk / Islamic bonds.
We believe that there are opportunities for Islamic Finance in the UK Retail Market. Nevertheless, for these to be realised a number of barriers need to be overcome – we feel these can be broken down into three key areas:
1) Refocus on ensuring compliance: Islamic Finance does have a multitude of rules and regulations for new entrants to get to grips with. However, for those that are fully compliant, there is an opportunity.
The actual number of UK Muslims who would consider moving their accounts to genuinely compliant products is likely to be modest. We therefore recommend that sizing the addressable opportunity before any development or market entry plans are put into place.
2) Educate the consumer base: UK consumers are largely unaware of Islamic Finance, how it works, and its benefits. However, financial institutions must build their knowledge, before Islamic Finance becomes part of their consideration.
3) Market Islamic Finance solutions: Once greater awareness has been built, financial institutions must raise awareness and comprehension of Islamic Finance, particularly its potential application to non-Muslims. Clear yet compelling messaging is essential. We also believe that the non-existence of a kitemark to identify Sharia-compliant products is a potential barrier. We feel that such a kitemark may help raise awareness and act as a vital sign post for consumers.