Are there hedge funds in the Islamic financial world?

Independent magazine for business and education

Sharia-compliant financial products score with greater resistance to crises and greater transparency. No wonder that interest is growing. The business ethics of Muslims, however, is not entirely undisputed.

In 1982, Mexico's government declared it could no longer pay its external debt - the Third World debt crisis became apparent. A quarter of a century later, it hits Iceland. The European island state is on the brink of national bankruptcy. Is the world collapsing on compound interest? A system that works without interest, at least in theory, is becoming increasingly fascinating in the financial world: the business ethics of Muslims. Islamic banking is also higher on the agenda of institutions and the financial industry today than it was a few years ago. Not without reason: "Sharia-compliant products behaved relatively stable after the subprime crisis," says Michael Mahlknecht, managing director of the software solution provider Delta Hedge and author of the book Islamic Finance. When US corporate bonds were plummeting from mid-2007 to the end of 2007, Islamic bonds still rose in value. But: "The volume of Sharia-compliant products is currently still a small drop in the ocean - with a strong growth trend worldwide," says Mahlknecht.

London pioneers in Europe
In Europe, London in particular has created the legal, tax and regulatory framework for such businesses and institutions, and so the financial metropolis has numerous specialized retail and investment banks, insurance companies and hedge funds ready for interested customers. Bosna Bank International covers such needs in Bosnia; according to Mahlknecht, such a specialist bank is being set up in Italy and one is planned in France. It is estimated that 30 percent of the British population want Islamic financial products, and some financial advisors elsewhere are also said to have waiting lists. Even in L’Osservatore Romano, the Pope recently praised Islamic banking, which could contribute to new rules in the western, greedy financial world.
“In this country, however, customer interest is still limited,” says Werner Albeseder, Managing Director of Prime Communication & Corporate Finance Consulting, which has also built a foothold in the Gulf region. According to reports, the large domestic financial institutions such as Raiffeisen Zentralbank (RZB) are occasionally active in the area of ​​banking in accordance with the religious rules of Islam and Sharia, but not domestically and primarily for institutional customers. And this despite the fact that there are more than 400,000 Muslims living in Austria. “From a purely pragmatic point of view, we would not sell any Islamic-oriented products,” says Peter Böhler, director of the church-related bank Schelhammer & Schattera. "We don't have enough expertise to do this, and we also believe that these products do not suit the taste of our clientele."

Risk of illiquidity

The financial crisis could, however, intensify the turn to such offers, because Sharia-compliant forms of finance are perceived as more secure and are certainly more transparent than some of the investment products that were carved out in the western world before the subprime crisis. “But I don't advise anyone to buy Sharia-compliant products now,” Mahlknecht hurries to say, “just because they have performed well in the past doesn't mean that they continue to perform better than many Western-style investment vehicles.” There are, too Mahlknecht warns that there is no secondary market for Sharia-compliant products and thus the risk of illiquidity.
The core of business ethics among Muslims is the prohibition of interest (Riba). There are also prohibitions of increased uncertainty and gambling. Unauthorized business areas, they are called haram, are alcohol, pork, pornography, weapons and mostly defense and tobacco. “The consequences of this are a ban on short sales, conventional insurance, financial derivatives, interest rate instruments, investments in conventional or non-Islamic financial institutions and investments in over-indebted companies,” explains Mahlknecht. Separate financial instruments, contracts and promises have emerged, such as the Islamic Bonds, also known as Sukuk, or special Islamic insurance policies called Takaful. Sharia boards used in Islamic compliant banks decide on the "Islamic suitability" of the products or institutes. The big difference: With us, loans have to be paid when they are due - including compound interest. Islamic business ethics, on the other hand, does not know the concept of guilt.

Circumvention transactions
Islam-compliant financial institutions do not have to fear for survival, however, they draw money from charging fees, for example. "Money for money is not okay," explains Albeseder, "money for goods is okay."
Specifically, this could mean that, for example, a car dealer sells his vehicle to a bank, which in turn gives the interested party a purchase price plus a surcharge, which may be based on the Libor (London Interbank Offered Rate). “A bypass business then”, ranted critics present at the event “Ethics in the Tension Between Cultures” of the Austrian Network for Business Ethics.
Be that as it may, such principles cannot simply be applied to the western world. One must also bear in mind that enormous trading margins and exorbitant interest rates were possible in Muhammad's time, which then led to the prohibitions that are still in force today.

Linda Kappel, Economy issue 72-04-2009, April 24th, 2009