Now might not be the best time to sell Americans on the benefits of Islamic finance. American military forces are bogged down in three Muslim countries and Congress is holding hearings on the potential threat to the U.S. posed by radical Islamists.
Yet shrewd investors know that emotion-filled decisions can be the ruination of any portfolio. Which is why sukuk – Islamic bonds – are among their newest investments despite the current political climate here and abroad.
However you view Islam, these bonds are helping Western banks and investors alike reacquaint themselves with fiscally responsible standards and practices. As quaint as it might sound to a generation of Americans saving proportionately less than any generation in the country’s history, there was a time not too long ago when a reputable bank would give a mortgage to a customer only if it determined he could repay it.
Globally, more than $40 billion of sukuk were issued in 2010. The domain of Malaysian and Persian Gulf banks for some two decades, British and American banks are now using sukuk as they set up investment arms to cater to customers with distinctly Muslim investment guidelines. The banks buy and sell sukuk but mostly arrange for issuance of the bonds by companies and countries looking to fund large projects. Non-Muslim investors also are using sukuk as an effective way to diversify their portfolios. Some 50 per cent of sukuk are held by Americans and Europeans.
Sukuk are similar to regular bonds in that they provide a cash flow to investors and help raise capital to finance long-term projects. But charging interest is strictly forbidden in Islam. So sukuk are structured so that investors share in the risk and potential profit of the project for which the bonds were issued. Plus, sukuk can be issued only for hard, “identifiable” assets and must conform to investing principles that Muslims deem socially responsible. Although performance varies depending on the project, the 10 securities in the benchmark HSBC/Nasdaq Dubai U.S. Dollar Index returned 16.5 per cent in 2010 and 23 per cent in 2009.
Sukuk from the Middle East tend to be issued in the euromarkets and listed in London or Luxembourg. Institutional investors subject them to the same kinds of review as they would any other fixed-income investment, says Michael Gifferty of the Gulf Bond and Sukuk Association, a trade group based in the United Arab Emirates. “They want to know whether their principal investment will be honored and whether the compensation is adequate given the risk. That means understanding the project to be financed and reviewing the strength of the underlying cash flows,” he said.
Standard Chartered, HSBC, and other big Western firms have separate, “Sharia-compliant” arms that issue sukuk on behalf of clients around the world. University Islamic Finance Corp., an arm of locally owned University Bank of Ann Arbor, Michigan, aims to go beyond the institutional market and instead focus on a growing band of individual investors throughout the Midwest – Muslim or not – who are looking to diversify their portfolios with fiscally sound investments.