Assessing the growth of Islamic equity funds

Suhail Arain

Investment DirectorScottish Widows Investment Partnership

Islamic Finance : Overview

• Islamic assets are about 1% of global banking assets

• The current size of Islamic finance market is estimated to be US$480 bn with retail being the largest segment at US$380 bn

• Islamic capital markets is the most dynamic segment with 40% CAGR over the 2000 – 06 period

• Regional breakdown : Middle East 40%, South East Asia 28%, Europe 10% and North American 6%

• Forecast growth of Islamic finance market 11% CAGR over period 2007 – 2010

• The opportunity remains large with some surveys indication that 75% of banking customers in the Gulf prefer Islamic banks and would switch to this format if their products were at least on par with those of conventional banks

Islamic Finance : Current Market Size

Islamic Funds

Developments and Outlook

Risk/return relationship and the benefits of diversification

• What do investors give up in becoming Shariah investors?

• An Islamic investor tends to focus on quality (low gearing)

• Favoured sectors include : Energy, materials, industrials, healthcare and technology at the expense of FINANCIALS and utilities

• An investment managers’ perspective

SWIP Shariah Guidelines

• Investment Principles

• According to Islamic principles certain industries are unlawful and investments in these are forbidden

• They include:– Tobacco– The production or sale of pork products– The production or sale of intoxicating liquor– Non-Islamic structured banking, finance, investment or life insurance business, or any other interest-related

activity– Cinema, and all media that contain pornographic material such as broadcasting, videos and CDs etc– Arms manufacturing

• Companies invested in must also follow the following guidelines– Interest revenue shall not exceed -5% of total revenue– Non-Islamic structured borrowing must not exceed -30% of the total market value of the company’s stock– Cash plus accounts receivables plus interest bearing assets shall not exceed -30% of the company’s adjusted

total assets– Each company shall be comprised of -51% non-liquid assets

Islamic Performance

ISLAMIC VS NON ISLAMIC SECTOR PERFORMANCE 12/10/07

2003 2004 2005 2006 2007

80

100

120

140

160

180

200

220

240

260

280

300

VICE WEIGHTED INC FI N - PRICE INDEXNON VICE WEIGHTED - PRICE INDEX

Source: Thomson Datastream

Islamic Performance

FTSE GLOBAL ISLAMIC INDEX VS MSCI GLOBAL INDEX 12/10/07

2003 2004 2005 2006 2007

80

100

120

140

160

180

200

220

240

FTSE ISLAMIC GLOBAL $ - PRICE INDEX

MSCI WORLD U$ - PRICE INDEX

Source: Thomson Datastream

Examining the need for uniform Shariah guidelines

• Islamic finance has come of age but is still developing

• Is Shariah compliance a binary event or something more complex?

• May need to standardise products but not principles

• Transparency is of the uptmost importance

• Who decides?– Customers/investors– Investment advisors

• In the end a fatwa is just an opinion given in the best of faith

• Unfortunately no decisive answer investors should invest in those assets that are most appealing/relevant for them