Editor’s notes

Citation

Kabir Hassan, M. (2013), "Editor’s notes", International Journal of Islamic and Middle Eastern Finance and Management, Vol. 6 No. 2. https://doi.org/10.1108/imefm.2013.35206baa.001

Editor’s notes

Article Type: Editorial From: International Journal of Islamic and Middle Eastern Finance and Management, Volume 6, Issue 2

There are often incentives in any industry for firms to avoid their regulatory requirements, because these regulations often constrain business activities, thereby reducing profit opportunities. This is perhaps most apparent in the financial services industry, as it is one of the most highly regulated industries. The increased regulations placed on financial institutions is not unfounded, since the finance industry plays such a key role in the economy. However, free market advocates often contend that, by constraining investment opportunities and increasing transaction costs, these regulations also reduce economic efficiency. Hence, financial institutions looking to increase profits and economic efficiency have incentives to dodge regulation. Modern trends in the global financial industry such as globalization and financial product innovation have contributed to these incentives. Since regulations differ across locations, financial engineers may attempt to build complex financial products aimed at skirting regulations, such as those limiting asset holding or imposing capital or leverage requirements. Under such circumstances, these products increase the potential profitability of financial institutions at a cost of increased financial market risk.

Financial innovations such as derivatives can be used for legitimate and valuable economic purposes. For example, commodities futures and options can reduce uncertainty in the real production sectors. Also, financial derivatives such as interest rate swaps can help to reduce risk in the financial sector. So, the effects of these products can, in fact, be in line with the goals of financial regulations. However, complex financial instruments can be derived that have the effect of allowing institutions to avoid regulations. When financial institutions engage in the trade of financial products with the sole purpose of avoiding regulations, there can be severe negative consequences. Similarly, the use of financial products that eschew Shariah principles can have a similar negative impact from an Islamic finance perspective.

The point of any financial product is to satisfy consumer needs. Thus, the evolution of financial products should be driven by changes in consumer needs, based on economic conditions and trends. For example, globalization has led to greater flows of capital across borders, which can lead to significant exposures to foreign exchange risk. Thus, investors desire financial products that can hedge against this risk. Both the traditional and Islamic financial institutions have evolved to meet the demands of a more complex and increasingly global financial system. However, there are significant differences between traditional Western finance and Islamic finance.

From a Western finance perspective, financial products exist for purely intermediary purposes. The goal is not to obtain the financial products themselves, but to use the financial products to obtain real goods and services. For example, a small business owner may take out a loan in order to purchase equipment. The cash received from the loan is only desirable to the business owner because it can be used to obtain real goods and services. Thus, the actual purpose of the loan is obtaining real equipment. The loan is a purely intermediate means to a real end.

Under Islamic finance, the financial product is more directly tied with the underlying need. For example, this is done using murabaha or leasing. Due to advancements in technology, Islamic financial institutions can now arrange to purchase goods from sellers on behalf of their customers and provide them to customers on a deferred price basis. Modern technology now allows for this process to be almost instantaneous. This type of product, often called e-murabaha, essentially provides credit at the moment in which it is needed. Additionally, since the underlying goods are tied more directly to the financial product, it can be argued that Islamic finance can more efficiently fulfill the capital allocation process than the Western, interest-based approach.

The process of murabaha can in some ways be thought of as similar to credit card financing, where credit is used to fulfill an immediate need for real goods. However, there are crucial differences between Western credit and murabaha. The tenants of Islam forbid certain practices, such as charging interest on past-due balances. In this respect, Islamic finance is friendlier to the consumer. It allows for financing the purchase of goods and services with a financial product that is easier to pay back. Thus, Islamic finance helps preserve customers’ net worth, which is an important social goal in Islamic financial institutions.

While there are substantial differences between Western and Islamic financial products, recent trends in the evolution of money are bringing both sets of products more in line with the general goals of financial intermediation. The concept of money itself is simply a store of value or unit of exchange that is used in the procurement of real goods and services. Recent trends in electronic banking have moved modern economies towards a cashless financial system. This has the effect of more closely linking financial transactions with their underlying purchases, since the actual flow of cash rarely takes place. This link brings financial products more in line with the tenants of Shariah.

The first paper of this issue is by Tahani Coolen-Maturi. The paper examines the demand for Takaful products in the UK. A Takaful company is a Shariah-compliant version of an insurance company. These firms do not engage in practices that are forbidden under Islamic law, such as interest (Riba), gambling (Maysir) and uncertainty (Gharar). The Takaful industry is experiencing significant growth across the world. However, there are only two such firm in the UK, and their long-term viability is somewhat questionable. To this end, this paper questions whether there is a significant demand for Takaful firms in the UK. Determining Takaful demand may depend on several factors including how well the firms can target different segments of the Muslim population, such as overseas students in the UK, or how well the firms can effectively promote their strategies.

In the second paper, Dawood Ashraf evaluates the relative performance of Saudi Arabian listed Islamic mutual funds (IMFs) during the global economic crisis. The paper examines the success of IMFs in terms of both stock selection and market timing. The sample consists of 159 mutual funds listed on the Saudi Arabian stock market from 2007 to 2011. The author applies a CAPM regression framework as well as that of Treynor and Mazuy (1966). The paper improves upon previous studies by utilizing more appropriate regional benchmarks. The CAPM regression coefficients of the IMFs and conventional funds are compared using difference of means tests. The empirical results show evidence that the IMFs perform better than conventional funds during periods of economic crisis. As a secondary result, the study finds that managers of IMFs appear to have better stock selection ability during times of economic crisis. There is no evidence supporting their market timing ability. These results imply that IMFs may offer significant hedging opportunities to investors during periods of economic downturns. In addition, managers of conventional funds may be able to improve performance by instituting better screening criteria during economic downturns.

The third paper by Bana Abuzayed examines the announcement effect of the 2022 World Cup location on the market return and volatility of the hosting country of Qatar and other countries of the region, including The United Arab Emirates, Bahrain, Kuwait, Saudi Arabia and Oman. Data from the Qatari and other country stock markets for 2010 and 2011 is utilized in order to examine the effect. An event study as well as GARCH and EGARCH testing methodologies are employed. Finally, the paper examines whether these event announcements can have segment-specific effects. The results find abnormal market returns for the hosting country and the effect is particularly strong in the service sector of the economy. However, there is no evidence of abnormal returns for the remaining selected Gulf Cooperation Council (GCC) countries. Additionally, no significant volatility effects are found. The study suggests that countries preparing to host a major international sporting event should aggressively promote and attract investment. This investment can help to offset the substantial infrastructure expenses often incurred as a result of hosting such events. Given that Qatar, as well as most of the GCC countries, is planning to diversify their future income, hosting major sporting and other events can help to improve country reputation and attract external investment.

In the fourth paper, Abuzar M.A. Eljelly and Ahmed Abdelgadir Elobeed examine the performance of Islamic banks operating in Sudan. Sudan is significant to Islamic finance in that is among the few economies in which a whole Islamic banking system is in place. Nine of the largest and most active banks are used for the purpose of the empirical analysis. The study employs factor analysis to a set of financial ratios that are commonly used in the evaluation of bank performance. The study finds that six factors are able to explain most of the variation in the financial ratios. The significance of these factors in order of importance are: liquidity risk, coverage, efficiency (utilization), profitability, capital adequacy, and control. Additionally, these factors are found to be stable over time. The study narrows the set of factors that determine the performance of Islamic banks operating in a total Islamic banking system.

The fifth paper by Yazdan Gudarzi Farahani and Masood Dastan examines the role of Islamic bank financing on economic performance in Malaysia, Indonesia, Bahrain, UAE, Saudi Arabia, Egypt, Kuwait, Qatar and Yemen. Using quarterly data from January 2000 to December 2010, the analysis utilizes a panel cointegration framework. Islamic bank financing is found to be positively and significantly correlated with economic growth and capital growth in the selected countries. A Granger causality test reveals that there is a positive and statistically significant relationship between economic growth and Islamic bank financing in both the short and long run. Additionally, the long run relationship is stronger than the short run relationship.

M. Kabir Hassan