yasaar media islamic finance in north america 2009

7/30/2019 Yasaar Media Islamic Finance in North America 2009

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Copyright

Yasaar Media

Published by

Yasaar MediaDIFCThe Gate District

Precinct Building 3607 Level 6 EastPO Box 506765Dubai, UAETel: +971 4 370 0701Fax: +971 4 370 0702

Website: www.yasaarmedia.com

First published 2009

All rights reserved.

This book may not be lent, resold, hired out or otherwise disposed o by way o trade in

any orm o binding or cover other than that which it is published, without the prior consento the Publishers. Neither the publisher nor the author make any legal representation orwarranty with respect to the contents o the book, and they do not accept liability or anyinaccuracy in the material in the book.

Design and Layout: James S. Naval II

Islamic Finance in North America 2009

Copyright


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Co-publishers


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ConnectingWall Street

with theIslamic Crescent.

Codexa Capital and Calyx Offshore are

specialized investment banking frms con-necting clients with and within the Islamic

Crescent. The distinction between the frms

relates to their ocus. Under the Calyx brand,

we conduct our work or conventional-

sector investment strategies, whereas the

Codexa name ocuses on Shariah-compliant

business. We have crated the distinction to

provide clarity in our client relationships.

Codexa Capital managements experi-

ence at earlier employersincluding Merrill

Lynch, AIG, and Deutsche Bankinorms

our approach across a spectrum o

activities, rom product development and

capital introduction work, to asset advisory,

corporate fnance, and investment research

in support o client initiatives. This same

management team built, at our predecessor

frm, a business that ranked among the

Top 500 Islamic Financial Institutions

listed in London-based The Bankermagazine. In the wake o the 2008 credit

crisis, we transitioned rom venture capital

backing to management ownership, and

articulated our two allied but distinct areas

o ocus.We are headquartered in New York

and operate through afliations acrossthe Islamic Crescent or timeliness, localknowledge, and regulatory responsiveness.Our strength lies in cross-border,

transnational, and multilateral activity,

responding to a contact base stretchingrom Casablanca to Jakarta. Our approach

to both relationships and transactionsemphasizes clarity, accountability, andprocess discipline. Client assignmentsurther beneft rom our commitment tocommunications excellence as a coreelement in marketing and sales success.

Two allied frms with fve areas o ocus

Islamic Conventional

Product Development: Crafting 3 3

Corporate Finance: Solving 3 3Capital Introduction: Finding 3 3

Investment Research:Analyzing 3 3

Asset Adversory: Structuring 3 3

/80 Broad Street, 7th FloorNew York, NY 10004

www.codexacapital.comwww.calyxoffshore.com

[email protected]@calyxoffshore.com


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Ready For Take-O

The USA and Canada have not eatured very prominently in the development o Is-lamic nance on the global stage until relatively recently. The reasons or this mayhave more to do with marketing than substance since, as this report shows, therehas been a lot o activity in these core markets or a number o years but perhapsnot enough o it made the headlines outside o the North American press.

Ater 9/11 there was much press concerning the repatriation o unds rom North Americaback to the Gul rom investors who were nervous that their unds would be rozen andunreachable and doubtless some o this money did indeed make its way back and ounditsel uelling the infation-ed property boom that the Gul experienced until the wheels cameo just recently. But this exodus o unds only aected a part o the home-grown Islamic

nance market in North America and the rest o it ploughed on regardless, gaining tractionand scale.

Islamic nance has developed in North America along two very dierent tracks. The rst isthe retail nance track that gains most o the headlines. This concerns Islamic home nancein the main, although it also concerns non-interest bearing bank accounts and communityeorts to oer Shariah compliant solutions. Such eorts inevitably ollow the geographicspread o the Muslim population o North America since this is where the demand is.

In this regard Canada has an easier time o it than the USA since the Canadians are legallyallowed to ask the religion o their population and thereore can more easily identiy whereShariah compliant solutions are most needed. The USA, in contrast, is constitutionallydisallowed rom asking the religion o its population and so nds itsel in the odd position ohaving no idea whatsoever what the Muslim component o that population is. In the post-PC(politically correct) world in which we live this may seem like a debilitating anachronism, butit is not something that is likely to change anytime soon.

The other track along which Islamic nance has developed in North America is perhapsgrander in scale but is less visible and concerns the investment o predominantly GCC-basedIslamic unds in North American industries in a Shariah compliant manner. These includeinitiatives like Gul Finance Houses investment in Halcore, the US ambulance manuacturer,Arcapitas interest in the Elysian Development Group in Chicago and Churchs Chickens,Unicorn Investment Banks acquisition o Gardens Residential Care Centers in Caliornia andEllington Leather Goods and many more.

None o this is particularly surprising. The USA is one o the largest and most maturenancial markets in the world. Until relatively recently most investors also believed that itwas one o the best regulated markets and in spite o the recent hiccoughs, it probably stillis. In North America there is wealth, sophistication, and a high level o regulation. There is ahuge and diverse inrastructure o small, medium, and large enterprises many o which willbe looking or unding or investment rom one source or another. Since many GCC-basedIslamic investment banks were awash with cash it is hardly surprising that the cash wouldnd a way to be deployed where there was a need.

An equally important element in this jigsaw is the educational background o many o theCEOs o the Guls Islamic investment banks. Oten they hold rst degrees, second degrees,or MBAs rom educational establishments in North America. This means that this generation

o Islamic nanciers is happy working and doing deals on both sides o the Atlantic, whichexplains not simply their propensity to do deals but also the abundance o regional oces oIslamic investment banks in North America.


Introduction from Paul McNamara


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But the report that ollows is not simply a catalogue o who has done what in the sphere oIslamic nance in North America. It is the most comprehensive analysis so ar undertaken o

what has been achieved in each o these two main spheres as well as an insight into wherethe industry will develop rom here.

At the time o writing the globe at large is still talking up the prospects o economic recov-ery and both Goldman Sachs and Merrill Lynch look like they might be starting to replicatetheir stellar prots o yesteryear. And yet.

And yet. And yet it is no longer clear that the world wants to go back to the good old badold days beore the crisis. There is still a strong sense o ennui surrounding the way thingsused to be. Many are looking or a change and Islamic nance might be the change they arelooking or, representing as it does a mode o nancing that is inherently more risk-aversethan its conventional counterpart.

Where better to nd genuine green shoots o recovery than in the astest growing segmento the nancial world today, in the most complex and afuent countries o the world? With-out doubt Islamic nance in North America is heading into its most ascinating phase yetand by the time we come to publish Islamic Finance in North American 2010 the landscapecould look very dierent to the way that it does today.

Paul McNamara is the editorial director o Yasaar Media

Introduction from Paul McNamara


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Not long ago, I was on a fight romRiyadh to Jeddah, reading a text

about the Islamic aith. The mansitting next to me, who happenedto be wearing Saudi national attire,

said, You dont look Muslim.

I lited the Koran rom my travel bag andreplied, I must have missed the section thatdescribes what a Muslim looks like. Can youpoint out the reerence?

It is a story that I oten tell because it remindsme that all humans, by their very nature, com-

monly make assumptions that at times are un-grounded in context. Business is no dierent.Certainly the conventional nancial servicessector makes rash assumptions about theIslamic sector, and vice versa.A quick scan o US-based blogs on the topicwould lead the uneducated reader to assumethat Islamic banking was largely about terroristnancing. One site even goes so ar to reer toone o my accomplished American colleaguesas a Shariah-sop. I am not sure what thatmeans, but it is probably not complimentary.

Likewise, I recall a heated moment in Cairowhen an Islamic banking executive declared,

You dont really expect me to believe that an American rm can actually and legitimatelybe Shariah-compliant. In a moment o pushback, I suggested that there were upwards o7 million Muslims living in the United States who might argue dierently.

My point is that perception oten becomes reality, but thats not necessarily the same astruth. And while I aord my own clients a great deal o leeway in their views and expressions,I tend to be less generous with persons in the public domain, on account o my classic EastCoast education. I came o age in the intellectual equivalent o a Middle East souk.

My heartelt desire to understand the grounding and nuances o Islamic nance globally- whether in North Arica, the Levant , the Gul, South Asia, or Southeast Asia - helps uel theall-hours eort it takes to stay connected to such a sphere rom a New York headquarters.A multilateral approach inorms our eort to make an impact on the Islamic Crescent. Wecan be most eective, in my view, not by taking on Gul institutions on local deals in Bahrain orwresting with Malaysian institutions on projects in their own backyard, but rather by ocusing onthe cross-border and trans-national elements o our work. In this context, Karachi and Dhakacommand as much attention as Dubai. (I only those economies would do a better job atcapital ormation).

Foreword from Douglas Clark JohnsonCEO and Chief Investment Officer, Codexa Capital



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We are ortunate in having opportunities to introduce issuers and investors to each other in

ways that transcend mere commercial ties. A particularly satisying example is an Islamicproject nance eort on which we are now working, that uses American and Indian talentto structure a deal in the Ukraine to be syndicated primarily to Middle East and SoutheastAsian names.

Back to Cairo. I journeyed to the heart o the countrys religious establishment to visit witha well-known Shariah scholar at Dar al-Itaa. This involved some advance notice becausemy limited Arabic speaking capability required engaging a translator. When I showed up atthe appointed hour, the security supervisor at the ront desk said to me in broken English,Youre the American businessman, right? Were expecting you, but what are you doing here?We never see people like you in our building.

Ultimately it is the passion o inter-cultural re-understanding that drives one to work thephone at 3:00 am rom Wall Street. Sometimes the banker in Kuwait, or the institutionalsalesman in Kula Lumpur, or the nance ocer in Sri Lanka asks, What are you doingawake at this hour? I tend to reply, Can I help it i my home oce is at the lag-end o worldtime zones?

My colleagues and I welcome the opportunity to sponsor this publication. In a small way,our hope is that the report will help to connect issuers and investors, across the Islamic andconventional spaces, orthrightly and successully.

It is a big world. There is much to do.


Foreword from Douglas Clark JohnsonCEO and Chief Investment Officer, Codexa Capital


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A rapidly growing global industry develops under theradar in the United States and CanadaThe Islamic nancial industry has grown rapidly across many parts o the world and hasexpanded outside Muslim majority countries like Malaysia and the countries o the GulCooperation Council (GCC) into areas o the west like the United Kingdom, Germany, Japanand North America. However, the growth in North America, Canada and the United States,diers rom its growth in other areas o the world in the primarily retail ocus o the products

receiving the most attention. In many cases, Islamic nancial products were developed inresponse to the demands o Muslim communities within the two countries rather than romdevelopments within the broader nancial markets.

The relatively small size o the Muslim community in the US (2-8 million) and Canada (1 million)and the design o their regulatory systems have combined to leave the Islamic nancial indus-try in North America relatively under-developed compared to other regions o the world. How-ever, over the past 30 years, the industry has grown rom primarily oering Shariah compliantalternatives to investing and buying a home into many dierent areas o nancial service.

The types o products available to Muslim consumers within the core areas o developmenthas also expanded and liquidity enhanced through the participation o Freddie Mac and Fan-

nie Mae in the Islamic home nance areas. While the greatest attention has been given tothe retail area o Islamic nance in North America, the wholesale nance market is o equalor greater size. However, because the products are oten developed or oreign investors

Introduction



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Introduction

10 Islamic Finance in North America 2009

investing primarily in US assets, it has not received as much attention as the smallerdomestic retail industry.

One common misunderstanding among many observers is that the United States holdsan unriendly view towards Islamic nancial services, particularly since the 9/11 attacks.However, once one looks at how nancial regulation interacts with Islamic nance in theUnited States, it paints a dierent picture. While government ocials do not speak at Is-lamic nance conerences about their desire to attract Islamic nance to the United Statesas is the case or some other western countries, the regulatory system and the regulatorswho guide it are working behind closed doors with Islamic nancial industry practitionersto aid the development o products that are compatible with US laws and regulations aswell as the Shariah. In Canada, the government is still considering how it will regulateIslamic banks having completed but not released two studies on the industry and thusthere remains uncertainty about the path the industry will take moving into the uture. But

again, the government is working to educate itsel on Islamic nance to see what place theindustry will play within the nancial services market in the country.

In many respects, the retail Islamic nancial industry in North America has remainedocused on the local market and, unlike many large conventional nancial institutions in thecountry, most Islamic nancial institutions have not yet broadened their ocus to tap intoglobal nancial markets. This too is changing, but change comes slowly and there remainsa airly limited number o nancial institutions and products in the United States, sothe domestic market still has room to expand and deepen. The wholesalemarket has always been ar more global than the retail market, but theparticipation o the United States has been largely passive as the location oinvestments made through Shariah compliant nancial structures by oreign,mainly Middle Eastern, investors.

Although the Islamic nance industry in the US has notattracted the same attention as other regions o the worldand even other countries in the west, it has seen a largeamount o growth and development particularly during thepast 10 years and this should continue as new products aredeveloped and new institutions open.


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Toronto as one of the top 10 most economically powerful cities in the world. The TorontoStock Exchange has launched a Shariah index, where an Islamic ETF is to be launchedin the near future. Corporate and sovereign sukuks are also in the works while the TorontoFinancial Services Alliance has created a working group on Islamic Finance.

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A brief history of Islamicfinance in North America


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Isam Salah

Practice Group Leader

New York

+1 212 556 2140

Dubai

+971 4 305 0003

[email protected]

Jawad I. Ali

Deputy Practice Group

Leader

Dubai

+971 4 305 0004

London

+44 20 7551 7535

[email protected]

Nabil A. Issa

Partner

Dubai+971 4 305 0009

Riyadh

+966 1 211 8048

[email protected]

Andrew M. Metcalf

Partner

New York

+1 212 556 2111

[email protected]

Michael Rainey

Partner

London

+44 20 7551 7591

[email protected]

Abu Dhabi

Atlanta

Austin

CharlotteDubai

Frankfurt

Houston

London

New York

Riyadh

San Francisco

Silicon Valley

Washington, D.C.

www.kslaw.com

tExcellence in Islamic Finance -- Contribution to Islamic Legal

Practice (International Islamic Finance Forum - 2009)

t Islamic Finance Deal of the Year for Europe (The Banker - 2009)

t Islamic Finance Most Innovative Deal of the Year (Saudi

Arabia - Euromoney - 2009)

t Islamic Finance Best Project Finance Deal of the Year

(Qatar - Euromoney - 2009)

t Islamic Finance Deal of the Year for Qatar (Islamic Finance

News - 2009)

tBest new Private Equity Fund (Private Equity World

(MENA - 2009))

tChambers Global 2009and Chambers USA 2009ranked

King & Spalding as a Tier One f irm.

Leaders in

Islamic Financeand Investment


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The North American retail Islamicnance industry developed primarily

rom within Muslim communities.As described below, Muslims makeup a small raction o the total

population o the United States and Canadaalthough they make up a larger than aver-age share in a ew cities. This geographicalconcentration has caused the developmento Islamic nancial institutions in those areaswhere Muslims live, primarily in Chicago,Detroit, Washington, DC, Minneapolis-St. Pauland Los Angeles. However, just as the pres-ence o Islamic nancial institutions in cities

with large Muslim minorities is notable, it isequally notable that some cities with largeMuslim minorities do not have any Islamicnancial institutions.

One o the most important actors determin-ing the location o growth o Islamic nancein North America over the past ew decadeshas been the size o the market or Islamicnancial products, which is heavily infuencedby the population size and density o the Muslim

communities. In the United States, the CensusBureau is not allowed to ask about respondentsreligion and consequently, statistics on the

size o the Muslim population vary widely. Thecommon range o estimates used in the media

is between 5 million and 8 million, althoughstudies trying to estimate population by collect-ing and analysing data put the estimates lower,usually between 2 million and 4.5 million.

Regardless o which estimates o the Muslimpopulation are used, the Muslim share o theUS population is very low, probably under 2 percent. However, the overall population numbershide the geographical density o Muslims in aew large urban areas and this concentrationhas signicantly shaped the development o the

industry. The largest concentrations o Muslimsare in Boston, New York City, Washington, DC,Atlanta, Chicago, Detroit, Minneapolis-St. Paul,Houston, Dallas, Los Angeles and San Francisco.

Although Canadas population is nearly1/10th o that o the United States andabsolute numbers o Muslims are smaller, ithas a larger Muslim population as a share othe population. Unlike its American counter-part, the national statistical agency Statistics

Canada, does ask respondents to identiytheir religion. Data rom the most recentCensus in 2001 is in the table overlea.

Muslim Population and Geographical DensityTable 1: Recent estimates of the Muslim population in the United States

Source Estimate Date Methodology

Newsweek article 7- 8 million 2008 No source provided

Pew Research Center 2.35 million 2007 Telephone interview with 55,000 people toget a national sample o 1,050 Muslims

CIA World Factbook 1.7 - 2.0 million 2009 Estimate based on 0.6% population share

Nimer report 2.56 - 4.39 million 2002 Extrapolated rom data on SAT test takerscollected by the College Board

CongressionalResearch Service

5-7 million 2009 No source provided

Sources: Ali, Lorraine, Islam and Obama, Newsweek, November 7, 2008. Pew Research Center. 2007. Muslim Americans: MiddleClass and Mostly Mainstream. Washington, DC: Pew Research. Central Intelligence Agency. 2009. CIA World Factbook: United States.Accessed June 16, 2009. Available rom: https://www.cia.gov/library/publications/the-world-actbook/geos/US.html. Ilias, Shayerah.

2009. Islamic Finance: Overview and Policy Concerns, Congressional Research Service Report No. RS22931, February 9, 2009.Available rom: http://www.as.org/sgp/crs/misc/RS22931.pd. Nimer, Mohamed. The North American Muslim Resource Guide: MuslimCommunity Lie in the United States and Canada. New York: Routledge, 2002. A summary o the Nimer Report is available rom: http://www.pluralism.org/resources/statistics/nimer_stats.php.


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Islamic Finance in North America 2009 1

One stark dierence between the UnitedStates and Canada is that the Muslim popula-tion is concentrated primarily in one region,Ontario and specically in Toronto, with over40 per cent o all Muslims in Canada livingin Toronto and a urther 20 per cent living inother areas o Ontario. As a result, Islamicnancial institutions in Canada are also pre-dominantly located in Ontario and thus benetrom avoiding dierences between provincialregulatory environments that plague many Is-lamic nancial institutions in the United States.As the Statistics Canada projections or 2011

illustrate, the Muslim population in Canada isgrowing rapidly and this population growthis likely to be accompanied by increasingdemand or Islamic nancial services.

Early developments,1980s and 1990sDuring the 1980s, two Islamic nancial institu-tions began operating in the United States,the Amana Funds, a mutual und company inBellingham, Washington and American FinanceHouse-LARIBA in Pasadena, Caliornia. These

two companies oer what remains the coreocus o the Islamic nancial industry: smallbusiness/home nance and Shariah compliant

retail investment products. Both companieswere started in the middle o the decade andboth remained small until the early 2000s.Amana Funds, which is managed by SaturnaCapital Corporation started in 1987 with oneund with assets o $3.2 million and grew toexceed $10 million in 1994, the year in whichit oered its second und. The two undsentered the 21st century with slightly less than$50 million in total assets under management.

During the mid-1990s, the Islamic nancialindustry in the US made a signicant step

orward when United Bank o Kuwait requestedinterpretive letters on two o the most com-mon products used in Islamic nance orhome purchases. In 1997, its Ijarah wa iqtina(lease-to-own) product, based on a productdeveloped by Samad Group/CIHF Partnersbased in Ypsilanti, Michigan, received a avour-able interpretive letter rom the Oce o theComptroller o the Currency (OCC).1 In 1999,the OCC also issued an interpretive letterregarding UBKs Murabaha mortgage productsthat was also avourable.2 Both products were

viewed by the OCC as permissible productsor banks to oer because the structure othe products was economically identical to

Table 2: Muslim population in Canada, 2001 and 2011 (est.)

Muslim Population Share oPopulation

Share o CanadianMuslim Population

Region

Canada

Ontario

Quebec

British Columbia

Toronto, Ontario

Vancouver, B.C.

Calgary, Alberta

Montreal, Quebec

Ottawa

2001

579,640

352,525

108,620

56,215

254,110

52,590

25,920

100,185

41,725

Source: Statistics Canada. 2001 Census,Religions in Canada . Data available rom: http://www12.statcan.ca/english/census01/home/index.cm. Estimates or 2011 are rom Belanger, A. and E. Caron Maleant. 2005. Population projections o visible minoritygroups, Canada, provinces and regions. Ottowa, Ontario: Statistics Canada, Table A2, page 53.

2011 (est.)

1,103,300

698,800

194,800

102,600

505,700

92,100

43,700

179,400

74,400

2001

2.0%

3.1%

1.5%

1.5%

5.5%

2.7%

2.7%

3.0%

4.0%

2001

100.0%

60.8%

18.7%

9.7%

43.8%

9.1%

4.5%

17.3%

7.2%


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conventional nancial products. The impor-tant issue rom the perspective o regulators

was that banks should be solely involved withserving as intermediaries between deposi-tors and borrowers and should not be makingother investments with their capital, whetherequity investments in businesses or holdingownership o real estate properties, with theexception o real estate held or sale ollowinga oreclosure. This makes it extremely dicultor regulated banks to oer products besidesthose similar to Ijarah wa iqtina and Murabahathat produce the same economic outcome asconventional interest-bearing debt.

Although UBK let the US market, its geo-graphical ocus was primarily in Caliorniaand Connecticut, the OCC interpretive lettersserve as one o the most signicant develop-ments or the regulatory treatment o Islamicnancial products or banks and the agencysrulings are mentioned by governmentocials in public speeches about Islamicnance. Thomas C. Baxter, Jr., the generalcouncil and executive vice president at theFederal Reserve Bank o New York describedthe OCC interpretive letters requested by UBKin the context o the regulatory approach toIslamic nance in a speech in 2005:

The [OCC] approvals also demonstrate thetype o creative thinking necessary to ac-commodate a religious practice not generallyconsidered when the banking laws were rstdrawn up. [] By looking to the economic sub-stance o the transaction, the OCC was ableto recognise that the risks incurred by the pro-ponents o these products were not the samerisks the statutes sought to curtail. As banking

supervisors, we ought to be prepared to reachsimilar accommodations, while continuing toinsist that nancial institutions operate in asae and sound manner.3

During the late 1990s, the Islamic nance in-dustry in the US returned close to where it hadbeen at the beginning o the decade onthe retail side with the departure o both UBKand Al-Baraka USA which had also attemptedto enter the US home nance market. The maindevelopment, the OCC interpretive letters, did

not translate immediately into signicant growthin Islamic nance, but enabled the signicantgrowth in the latter hal o this decade.

During the mid-to-late 1990s, one area didcontinue to grow largely independently o the

retail banking and investment arena: wholesaleIslamic nance. However, this growth was pri-marily ocused on structuring Shariah compliantinvestments or Middle Eastern investors in theUS real estate market; the investments werenot designed or, nor made available to, Musliminvestors within the United States. Althoughthese products, largely property unds struc-tured to be Shariah compliant that invested inthe United States, began appearing as early asthe late 1980s, the mid-1990s saw this growthexpand. This period marked the beginning o

the wholesale Islamic nance market in the




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United States. It diered, however, rom mucho the retail Islamic nance which developed

rom within the American Muslim community inthat it was ocused on structuring investmentactivities or oreign investors looking to thedeep US markets or investment opportunities.A Catalyst or Growth The Dow Jones IslamicMarket IndexesWhen the initial idea or a Shariah compliantinvestment product was considered by a groupo Muslims in Indianapolis in 1984, they beganby starting an investment pool among the group

members. However, the demand or Shariahcompliant investments grew beyond whatcould be accommodated within an investmentpool and members approached a local undmanager, Nicholas Kaiser, who helped themstart a mutual und, the Amana Income Fund.4At that time, however, the rules or screeninginvestments or Shariah compliance were notstandardised nor were there benchmark indicesor Islamic mutual unds to compare peror-mance, so the und remained airly small orits rst decade. The launch o Failaka Advisors

based in Chicago, Illinois in 1996 providedthe Islamic nance industry with some o theinormation useul or gauging relative peror-mance o dierent unds around the world withits annual guide to Islamic unds. However, agap remained in the industry because there wasneither a set o broad market indices screened

or Shariah compliance nor commonly acceptedstandards or determining which investmentswere Shariah compliant.

This gap was lled in February 1999 whenDow Jones launched its rst Islamic Market

Indexes. The new indices provided a bench-mark or Shariah compliant equity managers.Initially, the index series was composed o aDow Jones Islamic Market World Index andeight sub-indices: DJIM-US DJIM-Canada DJIM-Asia/Pacic DJIM-Japan DJIM-Europe DJIM-U.K. DJIM-Extra Liquid (now DJIM-Titans 100)

DJIM-TechnologySince the launch o these initial indices, thenumber o indices has expanded to more than70 according to Dow Jones with 54 individualindices listed on the Dow Jones IslamicMarket Indexes website as o July 2009. Outo the indices listed on the website, there areeight global indices, 10 sector indices, ourTitans (Blue Chip) indices, our US indices,eight European indices, nine Asia/Pacicindices, eight other/country/regional indicesand three specialty indices. Since the launcho the Dow Jones Indexes many other indexproviders have launched their own indices:Standard & Poors, Morgan Stanley CapitalInternational (MSCI), FTSE and most recentlyRussell Investments, each with slightly dier-ent methodologies being approved by theirShariah boards.5 In addition to the bench-marking unction provided by the availabilityo an index, the launch o a series o indicesscreened according to Shariah complianceguidelines orced the creation o a clearand transparent methodology or screeningequities to determine whether they qualiy or

inclusion in the index.

The criteria used to screen equities or theDow Jones Islamic Market Indexes was ap-proved by a board o the leading scholarsin the industry with a diverse background onationalities and is reely available online.6This provides one o the rst exampleswhere Shariah standards were harmonisedacross multiple regions where in many casesthere exists a dierence o interpretationabout Shariah compliance standards across

these geographies. It also provides a clear,transparent guide to und managers, inves-tors and other Shariah scholars through the

Table 3: Dow Jones Islamic Market Indexes ShariahSupervisory Board and Nationality

Sheikh Abdul Sattar Abu Ghuddah

Sheikh Justice Muhammad Taqi Usmani

Sheikh Nizam Yaquby

Sheikh Dr. Mohamed A. Elgari

Sheikh Yusu Talal DeLorenzo

Sheikh Dr. Mohd Daud Baker

Source: Dow Jones Islamic Market Indexes FAQ.Available rom: http://www.djindexes.com/mdsidx/index.cm?event=showIslamicFaq

Syria

Pakistan

Bahrain

Saudi Arabia

United States

Malaysia


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publication o its Rulebook. In spite o the ex-istence o several slightly dierent screening

methodologies, the Dow Jones Index Shariahstandards remain the most widely acceptedhaving been adopted by the Accounting andAuditing Organization or Islamic FinancialInstitutions (AAOIFI) in its Standard 21 whichcovers stock and Sukuk investing.7

Following the launch o the Dow Jones IslamicMarket Indexes, the Islamic mutual und busi-ness saw new entrants drawn to the market

by the opportunity to use a benchmark indexand leverage the Shariah screening capabili-ties o the Dow Jones Islamic Market Indexes.The other unds, the Iman Fund, known asthe Dow Jones Islamic Fund until 2008, and

the Azzad Ethical Income and Ethical Mid CapFunds were launched in mid-2000.

Despite the Dow Jones Islamic Market Indexesproviding a benchmark or Islamic mutualunds, harmonised Shariah compliance crite-ria, as well as providing the option o licensingthe index component lists, the Islamic mutualund industry in the United States is largelydominated by the Amana unds which saw theirassets under management grow rom $45.4million as o May 31, 2000 prior to the Iman

Fund and Azzad Fund launches to $1.8 billionas o May 31, 2009 according to Morningstar,which represents 98 per cent o the total

assets managed by Islamic equity unds inthe US On June 5, 2009, the Azzad Ethical

Mid Cap Fund lowered its expense ratio rom1.9 per cent to 0.99 per cent eective July1, 2009. Days later on June 11, 2009, theAzzad Funds announced that the Azzad EthicalIncome Fund would be closed and all assetsdistributed by the end o July 2009.

The growth o mutual unds since the DowJones Islamic Market Indexes in Canada iseven more muted than in the United States.

The rst two Shariah-compliant mutual undswere launched in Canada, the rontierAltunds Oasis Canada and Oasis World werelaunched in November 2006. These undswere ollowed by Oasis Global Income in

September 2007. By the end o 2007, theunds had combined assets o $4.4 millionand, due to their small size, in July 2008, theOasis World and Oasis Global Income wereclosed. As o December 2008, the remainingOasis Canada und had assets o $2.9 mil-lion. Another und manager, Global Prospe-rata recently launched a new Iman Fund withover $2 million in assets as o June 30, 2009and the und manager expected the assets todouble in the next 30-60 days. In June 2009,UM Financial and Jovian Capital Corporation

announced they were planning an S&P/TSX60 Index ETF which would be the rst Shariahcompliant ETF available in Canada.8 This

Table 4: Islamic Mutual Fund Performance

Amana Income Fund

Amana Growth Fund

Azzad Ethical Income Fund

Azzad Ethical Mid Cap Fund

Iman Fund

DJIM US Index

Dow Jones Industrial Index

Source: Fund perormance data taken rom Morningstar.com (As o 17 July 2009). Index perormance is price perormance only romGoogleFinance as o 17 July 2009.

Fund Name Ticker DividendYield

1-year

AMANX

AMAGX

AEIFX

ADJEX

IMANX

.IMUS

.DJI

1.14%

0.00%

0.71%

0.00%

0.00%

n/a

n/a

-13.1%

-15.3%

-32.0%

-22.2%

-28.9%

-21.5%

-23.6%

3-year 5-year 10-year

2.1%

1.5%

-9.9%

-4.7%

-3.8%

-2.4%

-6.6%

(annualised)

8.4%

8.3%

-4.4%

0.9%

-0.3%

0.7%

-2.9%

4.2%

5.3%

n/a

n/a

n/a

-3.5%

-2.5%


19/82

Staying ahead means staying informed no matter what business you are in.

But if you work in an industry as fast moving as the Islamic nance industry then

you need to get your hands on the best industry insights as soon as they appear.

Doing so has never been so simple: simply email [email protected] with the

Subject Line Please send me your research reports immediately on publication.

We will take care of the rest.

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each Yasaar Mediaresearch report


20/82



ollows the announcement that Javelin Invest-ment Management JETS Dow Jones Islamic

Markets International Index Fund began trad-ing on the NYSE with $4 million in assets onJune 30, 2009.

Islamic fnance duringthe real estate boom andcrash o the 2000sThere were several signicant developmentsor Islamic home nance in the 1990s inmany areas including product development,increasing regulatory understanding o thenancial products used in Islamic nance and

the regulatory changes like the Riegle-NealInterstate Banking and Branching EciencyAct o 1994 that removed many o the re-strictions that prohibited banks rom openingbranches out o their home state.9 Despiteall o these developments, the Islamic homenance industry looked remarkably similar in2000 the way it did in 1990. However, oneimportant dierence was that in 2000, therewere several nancial proessionals whodeveloped experience with Islamic nance inthe US with the United Bank o Kuwait beoreit was acquired by Al-Ahli Commercial Bank oBahrain and let the US market in 200010.

In 2001, the industry changed dramaticallyin the way Islamic nance companies undedtheir home nancing with the approval orAmerican Finance House-LARIBA to receivenancing rom the Federal Home Loan Mort-gage Corporation (FHLMC or Freddie Mac).In conventional mortgages, brokers originatethe mortgage with a home buyer and thensell the mortgage to Freddie Mac which thensecuritises them and sells them to investors.

This removes them rom the mortgage orig-inators balance sheet, reeing up additionalliquidity to nance more home purchases.

The way the American Finance House-LARIBAtransaction works is that American FinanceHouse-LARIBA and the home buyer agree toa maximum monthly payment based on thevalue o the house and the monthly amountor which it could be rented. The home buyerand American Finance House-LARIBA signconventional mortgage documents. The

purchase is unded by Freddie Mac whichcan then sell the mortgage as a securitisedinvestment as it does with other mortgages.

American Finance House-LARIBA describesthe process in their requently asked ques-

tions on their website:

Every single home is presented to FreddieMac / Fannie Mae on line or approval or dis-approval. I approved, LARIBA would orwardthe money rom its own unds to purchasethe house and is paid within a week or less byFreddie Mac / Fannie Mae. LARIBA does notcharge Freddie Mac / Fannie Mae interest orusing the money during that weeks time.11

American Finance House-LARIBA signs a

separate agreement with the homebuyerrecasting the transaction in terms o themaximum monthly rent agreed on betweenthe two parties as a Musharaka agreement.Monthly payments pay the rent as well aspurchase a portion o the house conceptu-ally owned by American Finance House-LAR-IBA. In the American Finance House-LARIBA


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model, the Musharaka agreement is separaterom the standard mortgage documents usedto receive nancing rom Freddie Mac. Thenancing model is similar in the relationshipbetween American Finance House-LARIBA andFannie Mae.

The entry o Freddie Mac, and to a lesserdegree Fannie Mae, into the Islamic homenance market provide a huge source oliquidity into the market or Islamic homenance products. Within the rst six monthso the American Finance House-LARIBAagreement with Freddie Mac, $1 million hadbeen injected into the Islamic home nancemarket through LARIBA.12 In August 2001,Freddie Mac also signed an agreement withMichigan-based Standard Federal Bank andUnited Mortgage o America to nance up to$10 million in Ijarah home nancings in that

state. Standard Federal Bank, a subsidiary atthe time o ABN Amro was renamed LasalleBank Midwest N.A. in 2005 and eventuallysold to Bank o America in 2007. Despite theagreement with Freddie Mac, there were nocompleted nancings due to issues raisedby Freddie Mac that could not be resolvedsurrounding the due-on-sale clause that isin most mortgages. The due-on-sale clausegives the bank the right to oreclose on thehouse i the homebuyer transers ownershipto another owner. The structure o the Ijarah

programme being developed by StandardFederal Bank ran into problems involving thedue-on-sale clause that caused the lease-

to-own product to be incompatible with theagencys rules on leasing arrangements in

excess o one year.

The role o Freddie Mac in the Islamic homenance market is hugely benecial or increas-ing the availability o Islamic home nancingbut also raises a potential issue with Shariahcompliance because Freddie Mac is nancedusing interest-bearing debt and mortgages aresecuritised along with interest-bearing mort-gages in a securitised investment product.Freddie Mac typically purchases mortgageseither or its own investment portolio or or

securitisation and resale to other investors.However, in atwa rom Shariah scholars,Freddie Macs prevalence in the interest-based market and securitisation process wasruled as acceptable. In so ar as the contractgoverning the home purchase meets bothShariah compliance standards and FreddieMac underwriting standards, the source o theunds is not crucial to determining whether thetransaction is Shariah compliant.

From the Shariah compliance perspective othe Islamic home nance provider, the onlyaspect that should merit attention would bethe price paid by Freddie Mac in certain cases.Under most interpretations o Shariah, Ijarahand Musharaka mortgages can be resold atany mutually agreed price. However, Murabahamust be resold only at par. Neither restrictionis an impediment or Freddie Macs nancingthe Islamic home nance products becausethe nancing comes directly rom Freddie Macater the loan is approved by the agency andwhat eventually happens with the mortgageis not an issue rom the perspective o the

individual product and institutions Shariahcompliance. The source o unds is a commonarea o concern with conventional banks hav-ing Islamic windows. As described by HSBCAmanah in the requently asked questionssection o their website, The HSBC AmanahShariah Supervisory Committee has approvedthe utilisation o conventional capital or thepurposes o Shariah compliant nancing whilerestricting the usage o unds in generating Is-lamic assets only.13 Moreover, when FreddieMac was initially oering nancing or Islamic

mortgages, there was a possibility that manyIslamic mortgages would be securitised andresold to Muslim investors.

University Islamic Financial Cor-

poration was the first and remains

the only wholly Shariah compliant

Islamic banking subsidiary in the

United States.


22/82



The entry o Freddie Mac into the Islamichome inance market provided a catalyst

or the rapid growth in the market becauseit removed what had been a severe re-straint: lack o capital. In addition, be-cause Islamic home inance products werebenchmarked with interest rates, which ellrapidly in the early 2000s, the products be-came more aordable to a greater numbero potential home buyers. This alleviatedthe potential problem that Islamic inancewas generally more expensive than equiva-lent conventional products because o thegreater costs associated with structuring

the products to be in compliance w ithboth US law and the Shariah. In the UnitedStates, as elsewhere, this additional cost,oten called COBM (cost o being Muslim),limited the appeal o Islamic inancialproducts among those Muslims who wouldotherwise preer an Islamic mortgage, butonly i it could be had at a cost competitivewith conventional products.

The rst new entry into the Islamic nancemarket in the early 2000s was HSBC Ama-nah, the Shariah compliant division o theglobal bank HSBC. They began by oering Is-lamic home nance products using Murabahain New York State in 2002. In their rst yearo operating, they nanced home purchasesworth $20 million. However, they let theIslamic nance market in the US in 2006 cit-ing insucient demand or their products atthe time.14

Also in 2002, newly-ormed GuidanceFinancial (now called Guidance Residential)began oering Islamic home inance in

Washington, DC and the Maryland and Vir-ginia suburbs using a diminishing Mushara-ka model. It began ollowing an agreementwith Freddie Mac to inance $200 million inhome inance purchases, which eventuallyrose to more than $1 billion by the middleo 2007.15 The ollowing year, a smallcommunity bank in Chicago, Devon Bank,began oering Islamic mortgages ollow-ing a demand rom the local communitythe demographics o which had changedsince the bank was ounded in the 1940s.

Devon Bank also began selling its Islamicmortgages to Freddie Mac, but notuntil 2005.

During 2003, University Bank o Ann Arborin Michigan began oering Islamic home

nancing. The entry o University Bank wasthe rst bank operating in Michigan to oerIslamic nance, signicant because the largestpopulation o Arab Americans is in Dearborn,Michigan, a suburb o Detroit 35 miles east oAnn Arbor. In 2005, University Bank launcheda Shariah compliant banking subsidiary, Univer-sity Islamic Financial Corporation, which wasthe rst o its kind in the United States. Allother Islamic nancial institutions operate theirIslamic nancial activities within a bank along-side conventional nancial activities or within a

non-bank nancial institution. University IslamicFinancial Corporation was the rst and remainsthe only wholly Shariah compliant Islamic bank-ing subsidiary in the United States.

In addition to the home nance productavailable at other Islamic nance companies,University Islamic Financial Corporation also o-ers a deposit product that pays returns basedon the return on the companys home nanceproducts. The deposits are FDIC-insured and ithe banks home nance products are not pro-itable, depositors receive no return but wouldnot lose any o the principal o their deposits.The FDIC insurance is not Shariah compliant,but in the absence o the bank ailing, it wouldnot have any impact on the operations o thebank or the source o the return on depositaccounts. One way or customers to avoid theproblems posed by the FDIC insurance werethe bank to ail would be to reuse to acceptany payments rom the FDIC und. UniversityIslamic Financial Corporation describes onits website that Under current FDIC rules, allconsumer deposits less than $100,000 [tem-

porarily increased to $250,000 until the end o2009] must be insured against capital loss.16

During the past decade, there have beena number o smaller Islamic home nancecompanies that operate in dierent areas andtargeting dierent groups within the AmericanMuslim community. One provider that hasgrown rapidly since its ounding in 2003 isthe Arican Development Center in Minneapo-lis-St. Paul, Minnesota. The Arican Develop-ment Center was started by a ormer banker,

Hussain Samatar, to provide business andentrepreneurial training and Shariah compliantnancing or American Muslim immigrants


23/82



rom Arica, primarily Somalia, one o thelargest immigrant groups in Minnesota. The

Arican Development Center provided its rstbusiness loan in 2005 having started entre-preneurial training the year beore. In 2008,the Arican Development Center also beganproviding Shariah compliant home nancingthrough its nonprot mortgage originationrm ADC Financial Services using a Murabahaproduct with nancing rom Freddie Mac andFannie Mae. During 2009, it expanded thisprogramme working with the Minnesota Hous-ing Finance Agency.

The Islamic wholesalemarketWhile there are a large number o Islamicnancial institutions in the United Statesaimed at individuals wishing to use Shariahcompliant methods or buying a house orcar, nancing their business or investing ortheir retirement, there are also Islamic nan-cial institutions that ocus on the wholesalemarket. These institutions are distinct romthe retail market and emerged rom propertyunds developed in the 1980s and 1990sto enable mostly Middle Eastern investorsto invest in the US using Shariah compliantmethods o nance. One o the largest com-panies is Arcapita, a Bahrain-headquarteredprivate equity rm. Arcapita, ormerly knownas First Islamic Investment Bank, has beenactive in private equity, asset purchase andventure capital in the United States throughis oce in Atlanta, Georgia since 1998. TheAtlanta operations were originally known asCrescent Capital Investments prior to the re-branding o the entire company as Arcapitain 2005. Since its ounding, Arcapita has

completed 71 transactions worth more than$28 billion globally and within the US, thesetransactions include the purchase o CaribouCoee, Churchs Chicken (recently exitedthrough a sale to San Francisco-based pri-vate equity rm Friedman Fleischer & Lowe),PODS and Yakima Products. At the end othe banks most recently completed scalyear ending June 30, 2008, the activities inthe Atlanta oce accounted or 30 per cento the rms portolio. Arcapita is one o thelargest o the wholesale Islamic nancial

institutions in the United States and repre-sents one o the largest areas in the industryin terms o total assets. It is indicative o the


24/82



types o wholesale Islamic nance industrythat developed beginning in the mid-1990s

where the United States is the destinationor Shariah compliant investments, ratherthan the market or Islamic nancialproducts.

In the early 2000s, the wholesale nancingarea o Islamic nance saw the developmento a ew new entrants rom the Middle Eastinto the United States. The most establishednew rm was Gul Investment House (GIH)which ocused on property investments in theUnited States. In 2003, GIH purchased an

industrial company, The Halcore Group, Inc.,which manuactures ambulances, with an ad-ditional investment rom Gul Finance House(GFH). During the past ve years, the twoGul-based banks have collaborated in prop-erty unds as well as the purchase o anotherrm. In order to acilitate their investments inthe United States and have a local presencein the two primarily areas o activity, privateequity and real estate unds, they establishedtwo companies, Innovest Capital, based inCleveland, Ohio, and TransOcean Capital,based in Boston, Massachusetts. In addition,other Islamic banks and investment houseshave acquired investments, primarily in realestate, to diversiy their investments.

Another rm, Codexa Capital, which operatesor oshore Shariah compliant investmentsalong with its conventional partner rm CalyxOshore, began in 2002 as one venturecapital-backed company, Calyx Financial,ocusing on hedge unds. Between 2002 and2008, Calyx Financial reocused its activitieson structuring oshore products to connect

businesses needing nancing with investorslooking or Shariah compliant investmentopportunities.

In 2004, the Islamic inance market saw theentrance o another subsidiary o a Gul-based investment bank, Unicorn InvestmentBank, with the launch o private equityirm UIB Capital, based in Chicago, Illinois.The company ocuses on the acquisitiono control in middle market companieswith growth potential and typically invests

between $10 million and $75 million incompanies which usually have EBITDAo $5 million or more.

Anchor Finance Group, based in New York,started in 2005 providing Shariah compliant

nancing to businesses. The rm ocuseso nancial and management nancing andtrade nance activities. Most o the nanc-ing activities are conducted through partnernancial institutions including Deutsche BankTrust Company, Merrill Lynch Internationaland several other institutions based in theGul and Pakistan.The activities o AnchorFinancial Group, in addition to businessnance and product arranging, cross intothe consumer realm: providing nancing orinvestment properties owned by expatriate

South Asians living in the United States intheir home countries; in particular the Paki-stani American community.

Most recently, Zayan Finance began oeringcommercial real estate nancing in 2007.Based in New York, it has oces nationwide and


25/82



oers nancing in all 50 states. The companyprovides capital using a Musharaka mutanaqisa

(diminishing partnership) nancial agreementwhere monthly payments cover Zayans share othe rental income rom the properties as well asa portion that buys out Zayans share in the part-nership. Unlike the residential nancing market,Zayan ocuses on larger investments, rangingrom $500,000 to $2.5 million, comparedwith home nancing companies that generallyoer products that are sold on to Freddie Macand Fannie Mae. The Freddie Mac and FannieMae nanced purchases carry maximum loanamounts o $417,000, although this was raised

by the Housing and Economic Recovery Act o2008 to $625,000 and urther raised or certainhigh-cost areas by the American Recovery andReinvestment Act o 2009 to $729,750.17

The Islamic nance industry has developedin the United States throughout the 2000sand has also grown north o the border inCanada although at a considerably slowerpace. In 2007, there were two applicationsby groups wanting to open Islamic banks inCanada, but none has yet been approved. Aso July 2009, there are reported to be up tosix pending applications.18 In January 2008,the applications were placed on hold whiletwo studies were completed by the FinanceMinistry and the Canadian Mortgage andHousing Corporation (CMHC), the Canadiannational housing agency which providesmortgage insurance and securitisation omortgage-backed securities, in cooperationwith regulatory agencies like the Oce othe Supervisor o Financial Institutions, theCanadian Deposit Insurance Corporation andthe Bank o Canada. The studies are de-

signed to amiliarise the nancial regulatorswith Islamic nance and in particular with thelegal, regulatory and taxation implications oIslamic nancial products.

Although the applications or Islamic banksin Canada were held up by the desire o thegovernment to complete the studies, these arereported to have now been completed, althoughnot released. In the mean time, there are othersources available or home buyers looking toreceive Shariah compliant nancing. The largest

is UM Financial Group, a company started in2004 and nanced $120 million in home pur-chases using a Mudaraba nancing rom a local

credit union, the Credit Union Central o Ontario(CUCO). The company is currently expanding its

nancing source and anticipates an announce-ment o a partnership with one o Canadasmajor nancial institutions. UM Financial Grouphas also set up a real estate investment und tonance home purchases since the unds romthis Mudaraba nancing was used up, withoutany deaults and while returning signicantprots or both UM Financial and CUCO.

In order to provide a larger source o liquidityto provide nancing to the long waiting listo nearly 6,000 prospective home buyers

or renances it is completing an agreementto be able to provide up to $250 million inIslamic home nancing per year using undsprovided by one o Canadas major nancialinstitutions. UM Financial Group expects toannounce the signing o this agreement bythe end o 2009 having seen it delayed dueto the recent credit crisis. In addition to thenancing rom a larger bank, UM FinancialGroup is currently awaiting approval romthe Canadian government to open a multi-cultural bank, which would avoid the delayassociated with the Islamic banking study aswell as help to expand the appeal o non-inter-est-based products which meet not only theethical requirements or Muslims, but alsosome sects within the Christian, Jewish andMennonite aiths. Multi-cultural banking is aCanadian innovation and most o the majornancial institutions have multi-cultural bank-ing divisions that ocus on attracting new im-migrants into the banking sector by oeringthem retail banking services to integrate theminto the nancial side o living in Canada. Forthe banks, it provides a new area o deposits,

which oer a cheaper source o nancing orthe bank than other sources especially withthe dislocation in the credit markets.

In 2008, the Canadian market also saw theintroduction o the rst Takaul products o-ered by The Co-Operators Group. The groupworked with Ansar Co-Operative Housing Cor-poration Ltd., an Islamic housing cooperative,over two years to develop home and autoTakaul.19 This is an area where the Islamicnancial industry has developed slowly and in

ts and starts both in Canada and the UnitedStates. The rst Takaul company in NorthAmerica, First Takaul USA, began in 1996,


26/82



although it is no longer in operation. Themost recent US-based Takaul provider was

announced in December 2008 by a subsid-iary o American International Group (AIG),Lexington Insurance Company and is soldthrough the Takaul division o Zayan Finance,Zayan Takaul.20

Financing home purchasesusing the housing co-op-erative methodThe standard practice or home nance in theUnited States, both conventional and Islamic,involves mortgage nance companies, banks

and government sponsored entities like FannieMae and Freddie Mac, but one area where Is-lamic nance diers rom this is the presenceo housing co-operatives. In general, housingco-operatives are made up o members, akinto how a credit union unctions, who contrib-ute unds as an investment into an entity thatsaeguards the unds and invests them throughthe nancing o other members homes. In thisway, the Islamic housing co-operative providesmembers with a halal source o income as wellas the prospect o being able to buy a houseonce their turn comes.

The nancial model to which these co-opera-tives share the most in common is the rotat-ing savings and credit associations (ROSCAs),which are common method o nance in manyparts o the world in many dierent contexts.In a traditional ROSCA, a group o peopleall looking to nance something o similarvalue join together and each make weeklyor monthly contributions so that the totalcontribution each period is enough to nancethe purchase o one item. Each period,

one member o the ROSCA is provided withnancing to purchase the desired good andeach period, one person is chosen to receivenancing with all group members contributingan equal amount each period.

In the housing co-operative, members makean investment in the housing co-operativeand once there is enough money collectedto nance a house purchase, one memberreceives Islamic nancing or their homepurchase. Beore a member is able to receive

nancing, the total investment by eachmember has to build up to an amount thatserves as a down payment on the house.

When the house is purchased, it is done soby the co-operative, which holds the title to

the house. Each month, the member paysthe co-operative rent on the house which isadjusted, typically annually, to remain in linewith prevailing rent. The rental amount is splitbetween the co-operative to pay dividendsto members and nance uture purchases bythe co-operative and the members remainingprincipal balance. Once the member pays theco-operative the entire value o the house,including a portion o the appreciation in thehome value, the title is transerred rom theco-operative to the member.

The housing co-operative method hasbenets as well as costs. The members areable to receive halal dividends as they buildup their down payment rom payments bymembers who have received nancing. Inthis way, the co-operative operates like a realestate investment trust (REIT). However, thelimitation on housing co-operatives is they areplagued by a shortage o capital to nancehome purchases. All o the home purchasesare nanced entirely rom the contributions omembers and thereore there may be a signi-icant length o time between when a member

joins and when he can receive home nanc-ing. This has limited the number o co-opera-tives and some are no longer in existencelike MSI Financial, a Houston, Texas-basedhousing co-operative started in the 1990s.Another issue that the co-operative methodraises is that it may create a tax liability whenthe title is transerred rom the co-operativeto the member upon ull payment o principal.

The model began in Canada with the Islamic

Cooperative Housing Corporation, now theAnsar Cooperative Housing Corporation,based in Toronto, which began operating in1981. The cooperative grew rom 26 mem-bers in 1982 to nearly 2,900 in 2007, thelast year or which data is available. Overthe course o its operations, it has provideda dividend to members ranging between 6.0per cent in its 1981-82 to 10.0 per cent in1987. The most recent dividend was 6.4 percent in 2007. The Ansar Housing Coopera-tive provided a model that has been replicat-

ed in several cities across the United Statesincluding in the San Francisco, Caliorniaarea by the Ameen Housing Co-operative.


27/82



1. Oce o the Comptroller o the Currency. 1997. Interpretive Letter #806, December 1997. Available rom: http://www.occ.treas.gov/interp/dec97/int806.pd

2. Oce o the Comptroller o the Currency. 1999. Interpretive Letter # 867, November 1999. Available rom: http://www.occ.treas.gov/interp/nov99/int867.pd

3. Baxter, Jr., Thomas C. 2005. Regulation o Islamic Financial Services in the United States, Remarks given beorethe Seminar on Legal Issues in the Islamic Financial Services Industry, March 2, 2005. Available rom: http://www.ny.rb.org/newsevents/speeches_archive/2005/bax050302.html

4. Salam, Monem. Interview with Tess Vigeland. Marketplace. National Public Radio. March 7, 2008. Transcript avail-able rom: http://marketplace.publicradio.org/display/web/2008/03/07/meaw_money_islamic_mutual_unds/

5. Valente, Cecilia. Russell launches Sharia indexes, partners Jadwa, ThomsonReuters, June 24, 2009. Available

rom: http://www.reuters.com/article/rbssFinancialServicesAndRealEstateNews/idUSLO21426820090624

6. Dow Jones Indexes. 2009. Dow Jones Islamic Market Indexes Rulebook. New York: Dow Jones, June 2009. Avail-able rom: http://www.djindexes.com/mdsidx/downloads/rulebooks/imi_rulebook.pd

7. Dow Jones Islamic Market Indexes. 2009. World Measures with a New Perspective. New York: Dow Jones Indexes.Available rom: http://www.djindexes.com/mdsidx/downloads/brochure_ino/Islamic_broch.pd

8. Won, Shirley. 2009. Firms plan to launch sharia ETF, Globe & Mail, May 29, 2009. Available rom: https://se-cure.globeadvisor.com/servlet/ArticleNews/story/gam/20090529/RSHARIA29ART1924

9. 12 USC. 1811. Riegle-Neal Interstate Banking and Branching Eciency Act o 1994, Available rom: http://www.dic.gov/regulations/laws/rules/6500-3500.html

10. Sachs, Susan. Pursuing an American Dream While Following the Koran, The New York Times, July 5, 2001, pageC1. Available rom: http://www.nytimes.com/2001/07/05/business/muslims-us-seek-nancing-pursing-american-

dream-while-ollowing-koran.html

11. American Finance House-LARIBA. Frequently Asked Questions, Accessed June 17, 2009. Available rom: http://www.lariba.com/knowledge-center/aqs.htm#question4

12. Goe, Leslie. 2001. US Islamic Finance Initiative Takes O, The Middle East, October 2001. Available rom:http://www.articlearchives.com/society-social/ethnicity-ethnic-groups/813992-1.html

13. HSBC Amana, Frequently Asked Questions, Accessed July 3, 2009. Available rom: http://www.hsbcamanah.com/1/2/ALL_SITE_PAGES/amanah-global/about-hsbc-amanah/amanah-aq#09

14. Glover. Katherine. Financial dilemma: For many Muslims, conventional loans can be a sin, MinnPost.com, Novem-ber 24, 2008. Available rom: http://www.minnpost.com/stories/2008/11/25/4818/nancial_dilemma_or_many_muslims_conventional_loans_can_be_a_sin

15. Qutub, Hussam. Guidance Surpasses Billion Mark: A landmark or Islamic Finance in the US, Guidance Residential,June 20, 2007. Available rom: http://www.guidanceresidential.com/myphples/myPopup.php?contentid=20&TB_i

rame=true&height=600&width=900

16. University Islamic Financial Corporation. FAQs. Accessed June 19, 2009 and available rom: http://www.universi-tyislamicnancial.com/aq.html

17. Federal Home Loan Mortgage Corporation. Loan Limits. Accessed July 3, 2009. Available rom: http://www.reddiemac.com/sell/selbultn/limit.htm

18. Sanord, Je. Banking: Islam waits, Canadian Business, July 20, 2009. Available rom: http://www.canadianbusi-ness.com/managing/strategy/article.jsp?content=20090616_10007_10007

19. Sta writer. Canada: Takaul Debut in North America, ICMIF Takaful News, Issue 6, November 2008. Availablerom: http://www.Takaul.coop/doc_store/Takaul/TakaulNews6.pd

20. Press Release. Risk Specialists Companies Announces First Takaul Homeowwners Product or US, AmericanInternational Group Press Release, December 1, 2008. Available rom: http://www.aig.com/aigweb/internet/en/

les/Risk%20Specialists%20Companies%20Announces%20First%20Takaul%20Homeowners%20Product%20For%20US_tcm20-135657.pd

Footnotes


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INVESTMENT

UM

.com

REALTY

UM

SERVICES INC.Real Estate Brokerage

ADVISORY

UM

FINANCIAL

UM.com

Canadas Premier

Islamic Financial Institution

Member IFSB and AAOIFI

UM Financial is Canadas premier Islamic financial institution, serving Canadas growing 1 million-strong Muslimpopulation. In 2004, UM Financial secured a Mudarabah funding facility from Central 1 Credit Union that has reachedclose to $120m. This was used to finance residential home purchases on a Musharakah relationship. Recently, an award waspresented to Central 1 Credit Union for its financing arrangement that has, over the last four years, provided over $10m inprofit for the institution. UM Financial currently offers Islamic financing, refinancing and line of credit for both residentialand commercial clients.

UM has developed investment and deposit products withfinancial institutions for the Canadian marketplace. A$100m subscription investment fund was established tofinance residential and commercial real estate. A UMco-branded Islamic ETF is to be launched soon. TheTSX, which has the S&P/TSX 60 Shariah index, givesinvestors access to Canadian equities with filters. Of theTSX 60, a total of 25 stocks have qualified. Firms suchas Encana Corporation, Cameco, Imperial Oil and BarrickGold are represented. Other sectors will be represented

by Canadian icons like Research in Motion, ShoppersDrug Mart, Thomson Reuters, SNC-Lavalin, Biovail andMDS Inc.

A full service real estate brokerage is operated by UM

which allows Canadians and foreigners direct access tocommercial and residential real estate across Canada.

North Americas first MasterCard designed for theMuslim community is being led by Mint TechnologyCorp. for UM Financial. Working with UM, Mint

Technology has also expanded its GCC operations,offering customized prepaid financial products andservices for clients, such as payroll cards, using Canadiantechnology.

UM has advised many financial institutions andgovernment organization on structure, marketing andShariah compliance of Islamic financial transactions. Weare currently engaged in a sovereign Canadian sukukwith various government agencies.

Achievements

UM has appeared as the only Canadian entry in theBanker magazines Top 500 Islamic FinancialInstitutions and has been profiled on the front pages ofthe business sections of the three leading newspaper inCanada. UM is a member of two of the largest IslamicFinance associations: IFSB based in Malaysia andAAOIFI based in Bahrain. UM Financial was awardedBest Business Leadership in North America by WorldFinance Magazine Islamic Finance Awards in 2009.Omar Kalair, UM Financials President and CEO, wasamong the top twenty pioneer Muslim Canadianbusiness leaders presented awards by the CanadianIslamic Congress at the Canadian parliament in Ottawa.He was also awarded Entrepreneur of the Year 2009 bythe Canadian Islamic Chamber of Commerce.

Contact Us:

UM Financial - Corporate Head Office789 Don Mills Road, Suite 801Toronto, Ontario M3C1T5 Canada

T: 416.424.4100 F: 416.424.4199

Toll Free: 1.866.88-ISLAME-mail: [email protected]: www.UMFinancial.com

Load cash. Spend free.iFreedom

plusTM


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The role of governments and

regulation in Islamic finance


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The United States has signicantregulation o nancial services activi-ties and does not distinguish betweenconventional banks and Islamic banksor Islamic windows o conven-

tional banks in its application o the laws andregulations that govern the nancial servicesactivities. The regulatory supervision o nancialservices activities is also highly ragmentedbetween ederal and state regulators as wellas between dierent regulatory bodies at theederal level. One o the criticisms o regulatory

bodies ollowing the real-estate led crash o2007-2009 was that this ragmentation allowednancial services companies, in particular, non-bank nancial companies, in order to engagein regulatory arbitrage to reduce the regulatoryoversight o their activities.

For the Islamic nancial industry in the UnitedStates, this ragmented, overlapping regulatoryauthority has caused diculty or broadeningthe availability o Islamic nance across thecountry because each state has a separateregulatory body governing banks while at anational level there are a number o regulatorybodies with overlapping jurisdictions acrossthe activities o banks and non-bank nancialinstitutions. In its 2008 Article IV review o theUS nancial system, the International MonetaryFund describes how regulatory ragmentationand tur battles slow decision-making, blurlines o responsibility, and permit regulatoryarbitrage.1

This regulatory ragmentation is rustratingeven or banks used to operating within the

United States, but may be even more so ornancial institutions entering the United Statesrom oreign countries with centralised nationalbanking regulators. It is possible that oreign-based Islamic banks exploring entry into theUnited States market could conuse the regula-tory ragmentation with a general suspiciono Islamic banking and nance on the part oregulators, even where this is not present andthis could deter oreign Islamic banks romentering the United States market.

Even outside banking, there are a number oregulatory bodies that regulate Islamic nancialinstitutions; in the area o non-bank nancial

institutions like mortgage brokers, it is typicallythe state nancial regulatory agencies. Forinvestment-related products, the primary regula-tor is the Securities and Exchange Commission.However, even within this area o nancial ser-vices, there is some oversight by state nancialregulators or all the states in which the productis oered.

In Canada, the regulatory environment isgenerally less ragmented with only a ew na-tional regulatory body whose regulatory scope

includes the activities o banks and the primarybanking regulator is the Oce o the Superin-tendent o Financial Institutions (OSFI), FinanceCanada, the Bank o Canada, Canadian DepositInsurance Corporation (CDIC) and the FinancialConsumer Agency o Canada (FCAC) whichcoordinate their activities through the FinancialInstitutions Supervisory Committee (FISC).

However, securities and insurance regulation,as well as province- or territorial-charterednancial institutions, are regulated at theprovince-level and not by the national regula-tors. However, these provincial and territorialregulators, 19 regulatory agencies across the13 territories and provinces, cooperate onharmonising regulation through their participa-tion in the Canadian Securities Administrators.There are also three sel-regulatory bodies cov-ering investment dealers, mutual und dealers,and stock exchange regulation.

US GovernmentRegulation of FinancialServices InstitutionsThe United States nancial services industry isregulated by a number o overlapping regula-tory agencies with overlapping mandates.However, within each business area, there aregenerally two layers o regulatory supervisiondepending on the business size and geographicscope. To some degree, the design o theregulatory system is governed by the ederal-ist structure o the United States. Governmentpower is divided between the ederal and state/local governments based on a ear on the parto the Founding Fathers o an over-powerul na-

tional government that usurps power rom thestates. The general idea that divides powers isthat the states retain all o the powers that are

The role of governments andregulation in Islamic finance



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not specically given to the ederal government.One o the powers specically given to the

ederal government, the Interstate CommerceClause, is to regulate commerce with oreignnations and among the several states.2

The primary eect o the Interstate CommerceClause is that state-chartered nancial institu-tions that operate only within one state aregenerally regulated by the state and those thathave a national-charter and operate acrossmany states are regulated by ederal regulatoryagencies. However, within this simple dichoto-my, there are numerous exceptions in certain

areas o bank and credit union activity. Forexample in most cases banks receive depositinsurance rom the Federal Deposit InsuranceCorporation (FDIC) while most credit unions re-ceive deposit insurance rom the National CreditUnion Share Insurance Fund (NCUSIF). In otherareas o operations, credit unions are subjectto regulation by the Federal Reserve Board oGovernors and regional Federal Reserve Banks.

The table above shows that the general patterno bank regulation alls within the ramework o

ederalism. The three dierent categories onon-oreign banks, oreign banks are regulatedunder a slightly dierent system described be-low, are state-chartered banks, national banksand bank holdings companies. State-charteredbanks are those whose primary regulator isthe Department o Financial Institutions o thestate in which they are chartered. In general,most state banks are members o the FederalReserve and are subject to additional regulationby the Federal Reserve. State banks that arenot members o the Federal Reserve and which

have FDIC insured deposits are regulated by theFDIC. There are very ew state banks withoutFDIC insured deposits; the deposit insurancesystem works in part because nearly everybank carries FDIC insurance. Bank runs areprevented because the systemic risk o onebank ailure is signicantly limited by the nearlyuniversal deposit insurance coverage. Nationalbanks are banks that are chartered by the O-

Table 1: US Regulatory Oversight Banks & Bank Holding Companies

Bank Holding Companies National Banks State Member Banks

Chartering & Licensing Federal Reserve & State Authority OCC State Authority

Branching

Intrastate Federal Reserve & State Authority OCC Federal Reserve & State Authority

Interstate Federal Reserve & State Authority OCC Federal Reserve & State Authority

Mergers & Acquisitions

Intrastate Federal Reserve & State Authority OCC Federal Reserve & State Authority

Interstate Federal Reserve & State Authority OCC Federal Reserve & State Authority

Reserve Requirements N/A Federal Reserve Federal ReserveAccess to the Discount Window N/A Federal Reserve Federal Reserve

Deposit Insurance N/A FDIC FDIC

Supervision & Examination Federal Reserve OCC Federal Reserve & State Authority

Prudential Limits, Saety &Soundness

Federal Reserve OCC Federal Reserve & State Authority

Consumer Protection Federal Reserve & State Authority Federal Reserve Federal Reserve & State Authority

Enorcement FTC OCC Federal Reserve & State Authority

Source: Federal Reserve Bank o New York. 2003. Banking Institutions and Their Regulators. New York: Federal Reserve Bank o NewYork. Available rom: http://www.newyorked.org/banking/regrept/BIATR.pd.



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ce o the Comptroller o the Currency, a part

o the United States Department o the Trea-sury. Despite the name, not all national banksoperate in multiple states; the name reers tothe source o the bank charter rather than thegeographical scope o business.

Bank holding companies, in contrast, are holdingcompanies that can own either state and/ornational banks, as well as non-bank institutions.They are overseen by the Federal Reserve underRegulation Y, which provides the Federal ReserveBoard o Governors with the power to enorce

capital standards, approve mergers and acquisi-tions, and inspect the bank holding company.However, the banks owned by the bank holdingcompany still remain under the oversight o itsprimary regulator. The advantage o the bank

holding company or the banks owners is that itis easier and less costly to issue debt under thetax code as well as more fexibility in acquiringother banks and non-bank companies.

Because o the tax treatment o bank holdingcompany debt, most banks even small ones are

owned by bank holding companies. Accordingto the Federal Reserve data as o the end o2007, 83.9 per cent o all banks in the United

States are owned by bank holding companies.

Broken down by asset size, 96.7 per cent othe 478 banks with more than $1 billion inassets are owned by bank holding companieswhile 83.0 per cent o all smaller banks, 6,683banks, are owned by bank holding companies.3

Credit unions, institutions owned by anorganised group o members who oten sharea common employer, pool their memberssavings to oer loans to members, oten atmore competitive rates than banks becauseany dividends are paid to members instead o

shareholders. Like banks, there are state- andederally-chartered credit unions with a slightlydierent structure o regulatory oversight thanbanks as shown in Table 2 below.The primary regulator o credit unions is either

state nancial regulator or state-charteredcredit unions or the National Credit Union Ad-ministration (NCUA), a ederal agency chargedwith chartering and regulating ederal creditunions. One o the primary dierences betweenbanks and credit unions rom a regulatoryperspective is the source o deposit insurance.

For banks, deposit insurance is provided bythe FDIC while credit unions receive depositinsurance rom the National Credit Union Share

Table 2:US Regulatory Oversight - Credit Unions

Source: Federal Reserve Bank o New York. 2003. Banking Institutions and Their Regulators. New York: Federal Reserve Bank o NewYork. Available rom: http://www.newyorked.org/banking/regrept/BIATR.pd.

Federal Credit Unions State Credit Unions

Chartering & Licensing NCUA State Authority

Branching

Intrastate NCUA approval not required State AuthorityInterstate NCUA approval not required State Authority

Mergers & Acquisitions

Intrastate NCUA NCUA & State Authority

Interstate NCUA NCUA & State Authority

Reserve Requirements Federal Reserve Federal Reserve

Access to the Discount Window Central Liquidity Facility & Federal Reserve Central Liquidity Facility & Federal Reserve

Deposit Insurance Credit Union Share Credit Union Share or State Insurance Fund

Supervision & Examination NCUA State Authority

Prudential Limits, Saety & Soundness NCUA State Authority

Consumer Protection Federal Reserve & State Authority Federal Reserve & State Authority

Enorcement NCUA State Authority & FTC



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Insurance Fund (NCUSIF). The NCUSIF is aninsurance und run by the NCUA that, like the

FDIC, is backed by the ull aith and credit o theUS government.

One o the starkest dierences between banksand credit unions is that credit unions are notsubject to nearly the same level o oversightby the Federal Reserve. The three areas wherethere is oversight, reserve requirements, ac-cess to the discount window, and consumerprotection, represent more o an exchange othe benet o access to the discount window tomeet liquidity needs with the requirement that

the credit unions maintain adequate reserves andoperate under standard consumer protectionregulations like disclosure o the Annual Percent-age Rate (APR) on loan products they issue.

US branches o oreign banks operate under asimilar regulatory system to their counterpartsin domestic national and state banks. Theprimary dierence between the regulatory over-sight is that decisions on new national brancheso oreign banks are overseen both by the OCCand the Federal Reserve where they are onlyunder the oversight o the OCC or domestic na-tional banks. A PricewaterhouseCoopers guideon regulation in the United States or oreignbanks describes it thus:

A oreign bank that owns a US bank is, bydenition, a bank holding company and subjectto nonbanking restrictions on its US activities.Federal law also requires that a oreign bankwith a branch or agency oce or commerciallending company or Edge Act subsidiary in theUnited States be treated as a bank holdingcompany, meaning its scope o US nonbank

activities must also conorm to the limitsimposed on bank holding companies. Foreignbanks principally engaged in a banking businessoutside the United Statescalled QualiyingForeign Banking Organizationsmay, however,hold investments in oreign nonnancial compa-nies that, subject to certain requirements andlimitations, engage in nonnancial activities inthe United States4

From a regulatory perspective, a oreign bankeither owns a US bank and is thereore a bank

holding company or it has branches within theUS and is overseen by the Federal Reserveunder the Edge Act. In the ormer case, the

oreign bank owns 1) a subsidiary that qualiesas either a bank holding company itsel; 2) a

national bank; or, 3) a state bank.

The regulatory treatment described above isconned to the most heavily regulated institu-tions, deposit-taking institutions. Islamic nan-cial institutions, however, are oten organised asnon-deposit-taking institutions either because itis not their core business (e.g. mutual unds) orbecause they are willing not to have a deposi-tory base and are more ocused on providingcredit, whether or home nancing, auto nanc-ing, o

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