Islamic Banking & Finance Page 15-02-2019


Business of Islamic Finance in Stock Exchanges

Manzar Naqvi

It has always remained a question in everybody’s mind that whether business in Stock Excahnges is Islamic or otherwise.

For this everybody needs to keep in mind that-To be a shareholder of a company which is working on business licit to be produced and put into market is without any doubt allowable. The buyer becomes a partner of that company in accordance with the percentage of his shares, and takes part in its profit and loss, and he is entitled to sell his shares whenever he wishes. Buying and selling a share that  gains or losses price in a way free from the economical value it belongs in the intend of  appreciating  the present money or keeping its charge or making money by seeking profit. The dealings in the stock market are in the second form i.e. investing on the exchange market in this sense, though not completely is similar to playing gamble or lottery. It causes the shares to be more precious or cheaper than they are. The people earn or loss money without any sound contribution to the economy and production of the country. In this regard, it is very difficult to assess the exchange stock to be, at every point, as an acceptable trade.

In the final declaration of the Stock Market Symposium held in Rabat in 1988 with the attempt of Islamic Law Academy adherent to Islamic Conference Organization and in the seventh term meeting of the academy which was conducted in Jeddah in 1992, it was stated that the shares are licit in that they take part in both profit and loss and yet the Islamic decree about this subject is highly related with the condition that the trade dealings and utmost purpose of the company in question must be permissible.

 At this point it must be stressed that in the cases that the profit of the company might be mixed with illicit, not because of that the activity area of the company is doing prohibited dealings, producing the commodities against the Islamic law, but because of that the company may have been in favor of unlawful proceedings, the shareholders are recommended to count this amount roughly and spend it in the way of good assuming that it is, after all, the right of the public but he should not seek any intention of good deeds for himself.

Indeed majority of the scholars of Islam arrived at a consensus, though some contemporary scholars claim otherwise, the stock market and shares two important Islamic problems of today are permissible in Islam. However, the company whose shares we want to purchase should not have any hand in producing alcohol or pork meat which is forbidden in Islam.

Whether it is permitted buying and selling shares from Stock Exchange, we can determine it by analyzing the following conditions.

1- It is banned to purchase the shares of the companies obviously conducting interest proceedings such as banks, bankers, usury institutions.

2-It is the same decree for the companies working on the production, selling and buying of the Islamic-banned-things like vine, beer and so forth.

3- Also, it is vetoed in Islam to buy shares from the companies that are selling at interest the goods of which we have share, and then mixing that profit with the other goods.

4-Though the commodity, the share of which we have is allowable, if the Muslim people who are the owner of the company whose shares we have are engaged in disallowed dealings, we are proscribed to get any share from that company. Because if we buy anything from them, then we would support them indirectly which is called “cooperation in sin” in Quran? And that cooperation is not permitted in our holy book.

5- Above all for an investment to be halal (lawful/permissible), it must be in equity instead of debt; investing in equity means having partial ownership by buying shares of the company.  So rather than the investor giving a loan and getting paid interest regardless of how the company does, with equity, the investor shares in the profit if the company does well and shares in the losses if it does poorly.

6- Buying any share from the Christian or Jewish-owned companies is abominable even if there may not be any other drawback.

7- It must be known about what is the percentage of the bought share compared to the whole company.

8-There must be asset. Buying the shares of an institution like Credit Company is prohibited in Islam.

9- It is permissible to buy participation shares from the share owner of a company which is essentially licit but is not being run in accordance with Islamic rules so that you can receive what he owes you. But you must sell those share certificates as soon as possible. And if you make any profit out of that trading; you must give it either to the poor or to the service of public.

10- It is unanimously licit to buy from the companies that have no relation with what is impermissible, the Muslim people constitute the majority, declare obviously the share to the sold stock certificate of the company which is subject to be sold, enable the people whenever they intend to give up the partnership.  And these Muslim Businessmen are extremely important for Islamic enterprises and licit capital. Because participation shares are the most crucial alternative for the interest which is one of the greatest major sins in Islam, the sharpest way of finding management and investment capital. If the Muslim people succeed putting this into practice by keeping it far from interest, they can be a means for coming about great operational managements and eradicating the interest.

The first Islamic Stock Exchange in the world Dow Jones Islamic Market™ Index includes thousands of broad-market, blue-chip, fixed-income and strategy and thematic indices that have passed rules-based screens for Shariah compliance. Launched in 1999, DJIM World is the world’s first global Shariah-compliant benchmark. Compliance concerns Muslim investors would otherwise face in constructing Islamic investment portfolios.

To determine their eligibility for the indices, stocks are screened to ensure that they meet the standards set out in the published methodology. Companies must meet Shariah requirements for acceptable products, business activities, debt levels, and interest income and expenses. The screening methodology is subject to input from an independent Shariah supervisory board. By screening stocks for consistency with Shariah law, the indices help to reduce research costs and compliance concerns Muslim investors would otherwise face in constructing Islamic investment portfolios.

KSE Meezan Index (KMI-30) is an Islamic stock market index on the Pakistan Stock Exchange in Pakistan of thirty companies that have been screened for Islamic Shariah criteria. The index was introduced in 2009 and the base period for this Islamic index is 30 June 2008. It was created as a joint effort by the Karachi Stock Exchange (now known as Pakistan Stock Exchange) and Al-Meezan Investment Bank (now known as Meezan Bank Limited).

The index is calculated using free float market capitalization. At any point in time, the level of the index reflects the free float market value of selected Shariah-compliant shares in comparison with the base period. KMI-30 is recomposed semi-annually. Guidance is taken from qualified and well reputed Shariah experts when Shariah compliance of stocks is done.


Functioning of Islamic Money Market

Mubesher Mir

The Islamic money market is integral to the functioning of the Islamic banking system, firstly, in providing the Islamic financial institutions with the facility for funding and adjusting portfolios over the short-term, and secondly, serving as a channel for the transmission of monetary policy. Financial instruments and interbank investment would allow surplus banks to channel funds to deficit banks, thereby maintaining the funding and liquidity mechanism necessary to promote stability in the system.

The first Islamic Interbank Money Market (IIMM) was introduced in Malaysia on January 3, 1994 as a short-term intermediary to provide a ready source of short-term investment outlets based on Shariah principle. Through the IIMM, the Islamic banks and banks participating in the Islamic Banking Scheme (IBS) would be able to match the funding requirements effectively and efficiently. Bank Negara Malaysia (BNM) issued the Guidelines on the IIMM on December 18, 1993 to facilitate proper implementation of the IIMM.

Few Instruments in Islamic Interbank Money Market are-

  1. a) Mudarabah Interbank Investment (MII)- It refers to a mechanism whereby a deficit Islamic banking institution (investee bank) can obtain investment from a surplus Islamic banking institution (investor bank) based on Mudharabah (profit sharing). The period of investment is from overnight to 12 months, while the rate of return is based on the rate of gross profit before distribution for investment of 1-year of the investee bank. The profit sharing ratio is negotiable among both parties. The investor bank at the time of negotiation would not know what the return would be, as the actual return will be crystallized towards the end of the investment period. The principal invested shall be repaid at the end of the period, together with a share of the profit arising from the used of the fund by the investee bank.
  1. b) Wadiah Acceptance- is a transaction between central Banks and the Islamic banking institutions. It refers to a mechanism whereby the Islamic banking institutions placed their surplus fund with Central Bank based on the concept of Al- Wadiah. Under this concept, the acceptor of funds is viewed as the custodian for the funds and there is no obligation on the part of the custodian to pay any return on the account. However, if there is any dividend paid by the custodian, is perceived as ‘hibah’ (gift). The Wadiah Acceptance facilitates central Banks liquidity management operation as it gives flexibility for central Banks to declare dividend without having to invest the funds received.
  2. c) Government Investment Issue (GII)- When the first Islamic bank in Malaysia began operations in 1983, the bank cannot among other things, purchase or trade in Malaysian Government Securities (MGS), Malaysian Treasury Bills (MTB) or other interest-bearing instruments. However, there was a serious need for the Islamic bank to hold such liquid papers to meet the statutory liquidity requirements as well as to park its idle fund. To satisfy both requirements, the Malaysian Parliament passed the Government Investment Act in 1983 to enable the Government of Malaysia to issue non-interest bearing certificate known as Government Investment Certificates (GIC) {now replaced with Government Investment Issues (GII)}. The GII was introduced in July 1983 under the concept of Qard al- Hasan.

The concept of Qard al- Hasan does not satisfy the GII as tradable instruments in the secondary market. To address this shortfall, Bank Negara (BNM) opens a window to facilitate the players to sell and purchase the papers with the central bank. The price sold or purchase by the players is determined by BNM, which maintains a system to record any movement in the GII.

On 15 June 2001, the Government of Malaysia with the advice by Bank Negara Malaysia issued a 3 -year GII of RM2.0 billion under a new concept of Bai Al-Inah. The move therefore had added depth to the IIMM as the GII is now tradable in the secondary market via the concept of Bay ad- Dayn (debt trading i.e. not allowed in Pakistan).

On 16 March 2005, the Government of Malaysia with the advice by Bank Negara Malaysia, issued first Profit-Based GII 5 -year tenure of RM2 billion. It is coupon bearing paper which the Government pays half yearly profit to the investors.

d) Islamic Private Debt Securities Islamic Private Debt Securities (IPDS) has been introduced in Malaysia since 1990. At the moment, the IPDS which are outstanding in the market were issued based on the Shariah compliant concept of Bai Bithaman Ajil, Murabahah and al Mudharabah.

  1. e) Sukuk Ijarah -This sukuk based on the Al-Ijarah or ‘sale and lease back’ concept, a structure that is widely used in the Middle East. A special purpose vehicle (SPV) is to be established to issue the sukuk Ijarah. The proceeds from the issuance will be used to purchase Bank Negara Malaysia’s assets and government assets in other countries like Pakistan. The assets will then be leased to Bank Negara Malaysia or governments like Pakistan for rental payment consideration, which is distributed to investors as a return on a semi-annual basis. Upon maturity of the sukuk Ijarah, which will coincide with end of the lease tenure, SPV will then sell the assets back to Bank Negara Malaysia or governments like Pakistan at a predetermined price. Pakistan government has till on 2019 has procured through Sukuk as Rs 384 billion from domestic market and $ 7.3 billion from external sector.

In order to facilitate Islamic Banking industry in Pakistan in their liquidity management, it has been decided that GOP may outright purchase GIS on deferred payment basis (Bai-Muajjal) and sell these GIS on ready payment basis through uniform price based competitive bidding auction process. These transactions will be executed as per the approval of the SBP Shariah Board.

Bai‘ Muajjal  Literally means a credit sale. Technically, a financing technique adopted by Islamic banks that takes the form of Murabaha Muajjal. It is a contract in which the seller earns a profit margin on his purchase price and allows the buyer to pay the price of the commodity at a future date in a lump sum or in installments. He has to expressly mention cost of the commodity and the margin of profit is mutually agreed.

The price fixed for the commodity in such a transaction can be the same as the spot price or higher or lower than the spot price. Banks and PDs are eligible counterparties to OMO transactions. For Bai Muajjal transactions, Islamic banks and specialized Islamic windows of conventional banks are eligible counterparties.

How to evaluate performance of an Islamic Bank by taking Example of Bank Islami Pakistan

Muhammad Arif

How should policymakers think about Islamic banks? Are they relics of a bygone era, propped up by subsidies and distorting financial-sector competition? Or, are they efficient and focused financial institutions that could, if unleashed, eventually dominate the retail financial landscape?

A better understanding of these policy questions requires specific knowledge about the performance and the determinants of efficiency and profitability of Islamic banks. Indeed, the performance evaluation of Islamic banks is especially important today because of the globalization effect. The globalization phenomenon has put Islamic banks in fierce competition with traditional banks in well-developed financial markets. Further, some countries have completely transformed their banking system to the Islamic model. It is also important that to analyze it must be unleashed that how bank characteristics and the overall financial environment affect the performance of Islamic banks. Specifically, the relationships between profitability and the banking characteristics have to be seen after controlling for economic and financial structure indicators. The intention is to decide which among the potential determinants of performance appear to be important.

In this regard utilizing bank level data, the summary statistics pertaining to Islamic banks’ sizes and profitability are to be considered. Than we have to go by regression analysis (Regression analysis is a powerful statistical method that examines the influence of one or more independent variables on a dependent variable.) to determine the underlying determinants of Islamic bank performance. To this end, a comprehensive set of internal characteristics is examined as determinants of bank’s net non-interest margin and profitability. These internal characteristics include bank size, leverage, loans, short term funding, overhead and ownership. Third, while studying the relationship between banks’ internal characteristics and performance, the impact of external factors, such as macroeconomic, regulatory and financial market environment are controlled. Among the external factors controlled, indeed foreign ownership, taxes, and the market capitalization have to be included. Moreover, some of the determinants are also interacted with the country’s GDP per capita to check whether their effects on bank performance differ with different levels of income. Finally, by studying the connection between Islamic banks’ performance and the efficiency indicators, the relationship between Islamic banks’ performance and financial development can be ascertained.

In regard to Bank Islami performance a black spot already exist on its face through irregular amalgamation of KASB Bank with Bank Islami causing roughly Rs3.5 billion in losses to the exchequer in addition to Rs6.6 billion as losses to sponsors of the defunct bank. This was confirmed by report of the Auditor General of Pakistan. On May 7, 2015, the SBP merged KASB Bank into Bank Islami at a token price of Rs1,000 after the former could not meet the statutory paid-up capital requirement of Rs10 billion. The SBP had extended two separate loans of Rs20 billion to Bank Islami after the amalgamation of KASB bank.

Pathetic performance of Bank Islami
June 2017 June 2018
Net assets Rs in billions 216 205
Deposits Rs in billions 179 172
Profit  Rs in millions -186 (negative) -83 (negative)
Branches 330
financing Rs in billions 121 107

As can be seen from the performance of Bank Islami for the last two years it is showing poor results. Hence SBP should come forward for the rehabilitation of the bank. In this regard fist and most essential step is to lay off its senior management including its CEO and to bring some efficient persons in their places.


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