The Next Generation of Islamic Asset/Cash Management
Michael Damian Billy, Managing Partner
Econophy Capital Advisors
Who will provide the dynamics for an 'idea system' that creates and innovates the processes in 2011 and beyond?
While there have been formal discussions held within the Islamic ﬁnance community over the past year regarding product development, acceptable investment practices and execution applications, several key issues remain to be primary topics for exploration. The most critical is, who will take on the leadership role and for what purpose?
One prominent international Shariah advisor to the Islamic ﬁnance industry who is providing a catalytic perspective is Dr Muhammed Elgari of Saudi Arabia. Elgari is the ﬁrst prominent scholar to emphatically call for a scientiﬁc approach to Shariah compliance.
This follows a similar call by another prominent Shariah scholar, Sheikh Esam Ishaq of Bahrain, for those Shariah advisories serving the Islamic finance industry to be regulated.
Elgari advises fellow Shariah advisories to adopt a scientiﬁc method in reaching their deliberations on Islamic ﬁnance. "To be respected," said Elgari, "Shariah scholars should follow scientiﬁc methods to reach their conclusions. We have seen many mistakes where declarations have been issued. Only the correct resolutions will prevail. Shariah is not a group of infallible people. It is a science. It requires methodology, and resolutions require peer review and market consultation."
Of equal importance regarding momentum and innovation is what component or participant of Islamic ﬁnance will build upon his foundational guidance to create an 'idea system' to exist and ﬂourish?
As a prolusion, I want to refer to a quote made by John Cleese, the well-known English actor, ﬁlm producer, comedian and writer who is now Provost's visiting professor at Cornell University. He stated: "We all operate in two contrasting modes, which might be called open and closed. The open mode is more relaxed, more receptive, more exploratory, more democratic, more playful and more humorous. The closed mode is the tighter, more rigid, more hierarchical, more tunnel-visioned.
Most people, unfortunately, spend most of their time in the closed mode.
Cleese further states that "we must return to the 'open' mode because in that mode, we are the most aware, most receptive, most creative, and therefore, at our most intelligent level."
His perspective is aligned with the task before every conventional, investment and development bank. The 'idea system' is also integral to serving the progressive goals and objectives of holding and Takaful companies. Inclusive are all of the various tangential participants, factions and governance authorities.
No matter what global culture or facet within is involved, creativity and innovation are crucial to business sustainability and growth, and therefore supports and nourishes modern civilisations.
Where does the momentum come from and who takes the lead?
At the crossroads, Islamic ﬁnance asset and cash managers must decide on whether existing rules and ﬁnancial oversight allow it to enter the new decade with a progressive perspective.
Simply stated, Shariah law compliance and its role within the Islamic ﬁnance and banking industry has become generationally rooted.
When managed by the present generation, priorities focus on creating and innovating current products, service, processes and paradigms. When companies become preoccupied with their present business, they diminish the contributions from those who look to the future.
The next generation understands that its current portfolio of products, services and processes will eventually mature and decline due to client/customer dissatisfaction linked to beneﬁts or rewards.
Asset and cash managers need to start seeding and feeding ideas into the governing authority process, whereby their contributions that can be monetised and tied to newer and greater asset class diversiﬁcation.
Hence, a new revenue stream can be borne that has greater proﬁt potential and a wider acceptance. If the goal of Islamic ﬁnance is growth over the next decades, a full pipeline of ideas must be present and be encouraged. To sustain the momentum, replenishment must outpace products that become less attractive due to a lack of originality, market responsiveness and client reward.
According to law ﬁrm Clifford Chance, Shariah scholars are increasingly taking the view that as Islamic ﬁnance is getting more sophisticated, investors should be able to enter into hedging arrangements. For a long time, the lack of acceptability was due to the fact that speculation was a broad-brush categorisation.
Interest rate swaps, Murabahah-based products, as well as Waad-structured products such as currency swaps or FX options, all form part of the Islamic ﬁnancial landscape.
Those types of innovative Islamic ﬁnancial risk management products represent Islamic finance's entrée in 2011 and growth beyond.
At the core of implementation should be the crystallisation of principles and scope. Who better to foster this evolution than the asset managers who have the daily responsibility for undertaking the enlightened process?
Why Islamic Golden Age sciences need to be embedded into the 'idea system'?
The Islamic Golden Age, or as it is often referred to as The Islamic (Abbasid) Caliphate, is traditionally dated from 622 to 1600 AD.
During this period, artists, engineers, scholars, poets, philosophers, geographers and traders in the Islamic world contributed to agriculture, arts, economics, industry, law, literature, navigation, philosophy, sciences, sociology and technology, both by preserving earlier traditions and by adding inventions and innovations of their own.
The works of Aristotle, Archimedes, Galen, Ptolemy, Euclid and others were the wellspring of science during the medieval period. Islamic scholars translated them into Arabic, the standard language of this
period. Islamic scholarship also inherited Aristotelian physics from the Greeks and developed it further during the Islamic Golden Age, especially placing emphasis on observation and a priori reasoning, formulating crude forms of the scientiﬁc method.
It is unfortunate and defeating that advances in statistics, physics and other forms of mathematics are not being utilised in today's Islamic ﬁnance and banking environment. Reﬁned, they can comply with non-riba transaction and non-speculative execution standards. Why these methodologies are not being used to thwart a myriad of risks is another question that remains unanswered.
Setting those ﬁnancial and beneﬁcial advancements aside, international, regional and secular banks cannot ignore the fact that an escalating inﬂation environment will challenge all product purveyors. The foremost challenge is to design offerings that combat interest rate risk.
A global issue confronting all countries, banks needs to combat its negative economic impact.
For western banks, the assets ﬂoat with income assets, whereby the liabilities are ﬁxed income liabilities. The risk comes from lower rates.
Conversely, Islamic banks have ﬁxed income assets whereby the liabilities are proﬁt-sharing liabilities (not ﬁxed.). Therefore, risk comes from higher rates.
Asset managers need to remain steadfast to the principals of product creation, that is, creating a value proposition. Bells and whistles not required – mandatory features include liquidity, interest rate and event risk safeguards.
What is the intent behind the tasking – symbolic or meaningful?
According to Harvard Business School Professor Teresa Amabile in "How to Kill Creativity" (1998), she afﬁrms that "in business, originality isn't enough. To be creative, an idea must also be appropriate – useful and actionable. It must somehow inﬂuence the way business gets done – by improving a product, for instance, or by opening up a new way to approach a process.
No matter how minimal or massive the undertaking, the same principal applies, it has to equate to a value. While individuals can afﬁliate with symbolism, they nonetheless live in the real world. If no value is perceived, they will seek it out through alternative channels."
If economic principles are applicable to each component and contributor, why are Islamic ﬁnance banks reticent to apply complimentary analysis that are derived from the Islamic Golden Age, when mathematics, physics and other sciences were integral to Islamic ﬁnance to evolve its competencies?
Economic models could be greatly aided by quantitative risk management techniques. Their integration can redeﬁne risk versus proﬁt opportunities that serve both the institutional and consumer markets.
Proﬁt and loss events becomes a more exacting outcome when the model allows for a higher level of scientiﬁc contribution that was acceptable during the Islamic Golden Age which is traditionally dated from the mid-7th century to the 13th century AD.
With optimism, the second generation of scholars and contributors to the 'idea system' will accept the responsibility for allowing quantitative orientated analysis and application to be utilised for the creation of a myriad of diversiﬁed asset class opportunities.
For those desiring to plant seeds and ideas that advance Islamic ﬁnance asset and cash management, I encourage each one of you to pursue an attempt where in cultural, economic and social beneﬁts are escalated.
Likewise, all contributions should embrace the adaptation of advanced technology to produce an elevated product emergence that will generate a more widespread client appreciation and participation.
Damian Billy's ﬁnancial background spans 28 years of trading, ﬁxed income portfolio management and ﬁnancial product design experience, including being managing director at JTU Capital, a Shanghai-based hedge fund, and American Diversiﬁed Funds, a Naples, Florida based alternative investment ﬁrm specialising in managed futures.
This article first appeared in Islamic Finance News (Vol 8, Issue 4, 2nd February 2011, Pg 15). For more details, please visit www.islamicfinancenews.com