Islamic Finance Lecture for Inclusive Mosque By Shafeeq Siddiqui March 2014

Islamic Finance 1. The principles of Shariah that govern Islamic banking are the following:- * Prohibition of interest (riba) in all financial transactions, such as: riba in debts, riba in sales, including forward currency deals and futures exchanges. * Participation in profit and loss sharing, since return is not guaranteed in an Islamic transaction.

Islamic World Institutions Islamic Finance Can be defined as Venture Capital with Ethical Banking that is Sharia Compliant Shari’ah considers money to be a measuring tool for value and not an asset in itself Following Financial instruments amongst others are in use..  Murabaha..buying and selling of items  Musharaka..a partnership  Ijarah...Leasing  Muqarada...islamic bonds to finance a specific project

Islamic Finance SUKUK...Islamic bond..(Sakk). Can be structured alongside different techniques. While a conventional bond is a promise to repay a loan, Sukuk constitute partial ownership in a debt (Sukuk Murabaha), asset (Sukuk Al Ijara), project (Sukuk Al Istisna), business (Sukuk Al Musharaka), or investment (Sukuk Al Istithmar).

Islamic Finance SUKUK...Islamic bond...These asset-based bonds of medium- term maturity have been issued internationally by sovereign and corporate entities.. Since fixed income, interest bearing bonds are not permissible in Islam, Sukuk securities are structured to comply with the Islamic law and its investment principles, which prohibits the charging, or paying of interest The essence of sukuk, in the modern Islamic perspective, lies in the concept of asset monetization—the so called securitisation—that is achieved through the process of issuance of sukuk

Islamic Finance SUKUK... Its great potential is in transforming an asset’s future cash flow into present cash flow. Sukuk may be issued on existing as well as specific assets that may become available at a future date.

Islamic Finance SUKUK... S hari’ah considers money to be a measuring tool for value and not an asset in itself it requires that one should not receive income from money (or anything that has the genus of money) alone This generation of money from money (simplistically, interest) is "Riba", and is forbidden The implication for Islamic financial institutions is that the trading and selling of debts, receivables (for anything other than par), conventional loan lending and credit cards are not permissible

Islamic Finance SUKUK... This principle is widely understood to mean.. – uncertainty in the contractual terms and/or – the uncertainty in the existence of an underlying asset in a contract, – which causes issues for Islamic scholars when considering the application of derivatives.

Islamic Finance SUKUK... Sheik Usmani(scholar) identified the following three key structuring elements that differentiate Sukuk from conventional bonds: 1- Sukuk must represent ownership shares in assets or commercial or industrial enterprises that bring profits or revenues 2- Payments to Sukuk-holders should be the share of profits (after costs) of the assets or enterprise 3- The value payable to the Sukuk-holder on maturity should be the current market value of the assets or enterprise and not the principal originally invested.

Islamic Finance Islamic Banking.. Islamic law prohibits : usury, the collection and payment of interest investing in businesses that are considered unlawful, or haraam (such as businesses that sell alcohol or pork, or businesses that produce media such as gossip columns or pornography, which are contrary to Islamic values)

Islamic Finance Islamic Banking.. Islamic law prohibits : Contracts for ownership of a goods that depend on the occurrence of a predetermined, uncertain event in the future speculative transactions Both concepts involve excessive risk and are supposed to foster uncertainty and fraudlent behaviour. Therefore the use of all conventional derivate instruments is impossible in Islamic banking

Islamic Finance Institutions Bonds & Equities Markets On the equity side, two indices were launched in 1999 to provide a benchmark for equity prices for investment by Islamic financial institutions: the Dow Jones Islamic Market (DJIM) Index in Bahrain and the Financial Times Stock Exchange Global Islamic Index Series (GIIS)‏ The international Islamic bond market is divided into sovereign (and quasi-sovereign) and corporate Sukuk (or Islamic note) markets—a particularly innovative, rapidly growing area

European Finance Debt..

World Finance Debt..

Europe Finance Debt.. Causes The European sovereign debt crisis resulted from a combination of complex factors, including the globalization of finance; easy credit conditions during the 2002–2008 period that encouraged high- risk lending and borrowing practices; the 2007–2012 global financial crisis; international trade imbalances;

European Finance Debt.. Causes real-estate bubbles that have since burst; the 2008–2012 global recession; fiscal policy choices related to government revenues and expenses; and approaches used by nations to bail out troubled banking industries and private bondholders, assuming private debt burdens or socializing losses.

European Finance Debt.. Contagion The interconnection in the global financial system means that if one nation defaults on its sovereign debt or enters into recession putting some of the external private debt at risk, the banking systems of creditor nations face losses For example, in October 2011, Italian borrowers owed French banks $366 billion (net). Should Italy be unable to finance itself, the French banking system and economy could come under significant pressure, which in turn would affect France's creditors and so on. This is referred to as financial contagion

European Finance Debt.. Contagion Another factor contributing to interconnection is the concept of debt protection. Institutions entered into contracts called credit default swaps (CDS) that result in payment should default occur on a particular debt instrument (including government issued bonds). But, since multiple CDSs can be purchased on the same security, it is unclear what exposure each country's banking system now has to CDS.[

Derivatives Derivatives were cited as the main culprit of the recession and bankruptcies of the affected financial institutions the world of banks and financial elites have finally come to see Islamic finance in a more positive light Islamic banking has been applauded for its ethical standards and respect of moral values so much forgotten in contemporary conventional banking.

Derivatives Forward Contract Derivatives are financial instruments, whose value, in simple words, depends on the underlying, like e.g. currency, price of stocks, price of gold, silver etc Eg let’s say the buyer enters into a forward contract, where the underlying is US dollars. The seller obligates itself to sell a certain amount of US dollars to the buyer at an agreed price at a future date. First, that the subject matter may not be in the possession of the seller at the time the transaction is entered into. Second, the contract is to be fulfilled at a future date. Third, neither the buyer nor the seller knows what the rate of the subject currency will be. This is speculative hence NOT allowed in Islam

Derivatives Options Contract Option contracts are the most popular types of derivatives They can be divided in general into two categories: call option and put option Call option contract is a contract where the buyer is entitled to buy a certain amount of underlying (e.g. Euro) for a price agreed by the parties, that is, a buyer and a financial institution trading in derivatives.The idea behind the call option is that the buyer expects that certain asset will have certain value in the future. The buyer in fact makes a bet that thanks to his forecast, he will earn.

Derivatives Options Contract Option contracts are the most popular types of derivatives They can be divided in general into two categories: call option and put option The second type of option contract is a put option contract. Here, the buyer enters into a put option contract with the financial institution, where he gets a possibility to sell the underlying asset at a certain price (the strike price) at certain time in the future. Not permissible under Shari’ah. The reason is that the option contracts generally trade in possibility, which means that no commodity is actually transferred between the parties.

Derivatives Bai Salam Contract In some ways similar to Forward Contract but has following characteristics... seller obligates itself to deliver a certain, specified thing of already defined qualities at some point in the future and the buyer pays the price upon entering into contract this type of contract is used for financing the agricultural sector –For instance, the seller sells 100 kg of grain before the crop is harvested, for a specified sum paid at the time of the transaction. No part payments are allowed.

Islamic Indexes To determine their eligibility for the Dow Jones Islamic Market™ Indices, stocks are screened to ensure that each meets the standards set out in the published methodology. Industry Screens AlcoholPork-related products Conventional financial services Entertainment Tobacco Weapons and defense

Islamic Indexes Financial Ratio Screens All of the following must be less than 33%: Total debt divided by trailing 24-month average market capitalization The sum of a company’s cash and interest-bearing securities divided by trailing 24- month average market capitalization Accounts receivables divided by trailing 24-month average market capitalization