In the end of March 2015, Emirates, the United Arab Emirate’s flagship carrier, set initial price thoughts for sukuk issue (Islamic bond) which ended up being $913 mln. According to information from Gulf Business, “the initial guidance for the senior unsecured ten-year sukuk issue is at around 100 basis points over mid swaps”. Funds acquired by issuing debt instruments will be partly used for purchasing new Airbus A380–800 aircrafts.
What is worth noting is that the sale will be backed by UK Export Finance (UKEF), the United Kingdom’s export credit agency. It is yet another Britain’s step towards expanding its role to the rapidly developing global Islamic finance industry. On 25th of June 2014, the UK was the first country outside the Islamic world to issue £200 million of sovereign sukuk. According to the government, the bonds were sold in the UK and in the major hubs for Islamic finance around the world and will mature on 22nd July 2019. Furthermore, David Cameron announced in October 2013 that the London Stock Exchange would launch an Islamic index that would identify companies whose operations complied with the Sharia — the Islamic law.
What is the difference between Islamic finance and conventional, Western one? All discrepancies derive from the Islamic philosophy of economics in which social justice and the welfare of society, called umma, play the most significant role. According to this approach, one should be allowed to earn profits, but cannot gain them as a result of charging interests. It is explained that profits (determined ex post) are a token of successful entrepreneurship and wealth, while interests (determined ex ante) are a cost that is not calculated on the basis of business’ performance and which may impair its operations.
The core of the Sharia include the avoidance of riba — preventable uncertainty and ambiguity in contracts. Riba is interpreted as an interest, meaning a moderate economically justified increase in capital, which is paid to the investor after a certain period of time. Some perceive it as a form of usury, claiming that a fixed, predetermined rate tied to maturity and principal impairs the position of the borrower and therefore must be prohibited. As a result, there is no pure debt security since Islamic finance products do not involve interests rates.
Although Islamic finance is subject to strict principles, it comprises a wide range of products. As it was mentioned before, the segment offers bonds called sukuk that are similar to the conventional ones. Sukuk is a fixed income instrument that also certificates the ownership of the asset to be financed. Sukuk is based on the concept of joint ownership of an asset by several financiers, which makes it similar to the securitized equity-type financing. Nevertheless, partnership contracts are the cornerstone of Muslim finance.
The most common instrument is mudarabah, an agreement in which one party invests all the capital while the other brings the know-how and labour. The profits and losses from the business endeavour are shared between the partners at a certain ratio which should be determined strictly as a percentage and not as a lump sum (if necessary it may be revised at any moment). The second main instrument is musharakah, in which, unlike in mudaraba, all partners put together their capital when setting up a company or engaging in an already existing one.
Although the world has only recently turned its attention to this segment of the market, the first Islamic financial institution, the Islamic Development Bank, has been created already in 1974, during the summit of the Organization of the Islamic Conference in Lahore. It is shortly after that commercial Islamic banks were set up. The Dubai Islamic Bank, established in 1975, is deemed to be the first of them. In the following years, numerous similar institutions emerged in the Middle East. The Kuwait Finance House (1977), the Bahrain Islamic Bank (1978) and the Qatar Islamic Bank (1982) are those created in the GCC region.
Over the years, Islamic finance gained outstanding popularity and significantly increased its market share. Ernst and Young estimates that in 2013, the total global value of Islamic assets reached 1.7 trillion dollars. As shows the EY “World Islamic Banking Competitiveness Report 2014–15”, the current market share of the so-called “participation banking” is 48.9% in Saudi Arabia, 44.6% in Kuwait, 27.7% in Bahrain, 21.4% in the UAE, and 20.7% in Malaysia. Furthermore, Islamic financial instruments have also become popular in Europe. According to EBC data, European Islamic funds, located mainly in Ireland and Luxembourg, made up 8.3% of the global Islamic fund industry in 2012.
The UK is not the only European country to tap into the possible gains that “”unconventional” banking may generate. At the end of March, Russian legislators submitted to the parliament’s lower house a bill supporting Islamic finance. According to Reuters, it “[would allow] banks to engage in trade activities, a concept central to many of the structures used in sharia-compliant financial products”. Germany has been issuing sukuk since 2004 (the first sale of Islamic bonds in the country was launched by the federal state of Saxony-Anhalt). Luxembourg decided to do likewise a decade later: the country issued its first 200 million euro five-year Islamic bond in October 2014. This trend proves that the Middle East finance is not only a domain of the GCC countries but may also influence operations in Western markets.