Interest in Shariah-compliant strategies is intensifying as an alternative to traditional investment management approaches because of what many investors see as their stronger focus on risk, according to two separate reports.
Shariah-sensitive investible assets totaled about $736 billion in the Gulf Cooperation Council and the Far East, according to the Islamic Funds & Investment Report 2009 published last month by London-based Ernst & Young Global Ltd. Shariah investments are compliant with Islamic law.
Those assets, based on 2008 estimates, represent a threefold increase from the previous year, when Islamic investible assets totaled $267 billion. (The Ernst & Young research methodology differed in the 2007 tally and included a narrower set of investors.)
Sovereign wealth funds accounted for about $213 billion of the 2008 total, with pension funds accounting for another $65 billion, according to the report. Endowments and similar institutions accounted for about $100 billion, while providers of takaful — a form of Islamic insurance — had about $7.2 billion. The remainder was from retail investors.
Separately, a Vision Focus paper published by Boston-based State Street Corp. also concluded that the Shariah-compliant sector “continues to garner attention because of its unique investment philosophy.” According to “Islamic Finance: Opportunity for Long-Term Growth,” which was released last month, proponents argue the principles underlying the investment strategies provide “a built-in system of checks and balances” that are particularly relevant in the current economic crisis.
“With less than 1% of the global assets under management (in Shariah-compliant investments), there's plenty of room to grow,” said Rod Ringrow, senior vice president of State Street based in Doha, Qatar, in an interview. The industry “has only scratched the surface” of the world's estimated 1.5 billion Muslims, representing 20% of the world's population, he said.
“There's also greater interest because many people view Islamic finance as potentially a better way to invest in light of what's happened in conventional finance,” said Mr. Ringrow, whose company has about $6 billion in Shariah-compliant assets under management within State Street Global Advisors. All of SSgA's clients in Islamic finance are institutions, and most of the assets are invested in equity strategies.
Anchoring Shariah principles is the philosophy that money should be used to measure the value of assets and has no intrinsic value of its own. Financial transactions need to be linked to an activity or an underlying physical asset; frequent trading of shares is forbidden because it is viewed as a form of gambling.
Its tenets of lower leverage, transparency and no speculation is proving attractive to an increasing number of investors searching for “a new way of screening markets,” said Paul Hoff, Asia-Pacific managing director for the FTSE Group, which offers more than 100 Shariah-compliant indexes.
“As a result of the recent turmoil, investors are going through and looking at what kinds of asset classes did better than others,” Mr. Hoff said. “While Shariah-compliant investments also suffered along with the rest of the global economy, the screening, for example, of heavily indebted companies, actually helped” to cushion the fall. The FTSE All-World index returned -33.91% for the year and -16.74% annualized for the three years ended May 29. In comparison, the FTSE Shariah All-World index returned -31.87% and -7.93% annualized, respectively.
However, there are some problems that might hinder growth.
Islamic investing is generally more expensive because of the extra layers of costs, such as maintaining a Shariah supervisory board. The approach poses its own challenges in terms of market, credit, funding and liquidity risks. A lack of hedging instruments means that it is more difficult to manage market risks within Shariah strategies while an undeveloped secondary market makes liquidity more of a concern.
The State Street report also referred to some regional differences. For example, a Shariah board in Bahrain recently declared that many of the innovative Islamic bond securities already marketed elsewhere did not comply with religious rules in Bahrain.
Data Editor Aaron Cunningham contributed to this story.