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Islamic finance tops $3.3trn but growth challenges remain

Ahli United Bank is converting to Islamic finance Reuters
Ahli United Bank is expected to convert its practices to be sharia compliant following its purchase by Kuwait Finance House
  • Saudi sector worth $830bn
  • 70% of assets in GCC, Malaysia and few others
  • 10% growth expected in coming year

Saudi Arabia is the world’s biggest player in Islamic finance and the appetite for it in the kingdom is only growing.

It has $830 billion of assets out of a global market estimated to be worth $3.3 trillion, according to Ayman al Sayari, the governor of the Saudi Central Bank.

Just last week, when Saudi Telecom Company subsidiary Tawal completed a deal to buy tower infrastructure in Europe, it secured a sharia-compliant loan of more than $1.4 billion from Saudi National Bank, Dubai Islamic Bank and First Abu Dhabi Bank.

However a lack of awareness is holding back the global growth of Islamic finance, say analysts at Fitch Ratings and S&P Global Ratings.

Even in Indonesia, which has the largest Muslim population in the world, Fitch reported that the sharia financial literacy rate was just 9.1 percent last year.

Only 18 percent of the surveyed population in Morocco, meanwhile, believed that Islamic banks’ financing products were halal.

Bashar al Natoor, global head of Islamic finance at Fitch Ratings, said: “In some cases, customers lack confidence in the sharia compliance of products and believe that Islamic banking is effectively the same as conventional banking. 

“Islamic banks in general face higher reputational and operational risks compared with conventional banks, as they need to ensure the compliance of their entire operations and activities with sharia principles.”

In the UAE, demand also appears strong for Sharia-compliant products. The government received bids of AED6 billion for its latest auction of T-sukuk, financial instruments that are sharia compliant and issued by the federal government in dirhams. The oversubscription rate was 5.5 times.

Core market growth

Global Islamic finance assets are estimated to have crossed $3.3 trillion in the first half of 2023, according to Fitch. 

If impediments are addressed, Fitch expects “strong long-term growth”, although this is likely to be concentrated in core markets. 

According to S&P Global Ratings, GCC countries, mainly Saudi Arabia and Kuwait, spurred 92 percent of the growth in Islamic banking assets last year. 

In Kuwait, this was mainly a result of sharia-compliant bank Kuwait Finance House’s acquisition of Ahli United Bank. Over the next couple of years, Ahli United is expected to convert its conventional activities to sharia compliance. 

In Saudi Arabia, the implementation of the Vision 2030 programme and continued growth in mortgage lending supported the 2022 performance.

More than 70 percent of global Islamic banking assets are concentrated in the GCC countries, Malaysia, Bangladesh, Jordan and Pakistan. Domestic market shares range from 15 to 85 percent. 

Experts expect Saudi Arabia’s banking system performance to continue to underpin a large portion of the expanding Islamic banking industry. The kingdom has the largest proportion of Islamic financing (86 percent) of any country that allows conventional banks to operate alongside Islamic banks.

But there are countries with large Muslim populations – such as Indonesia, Turkey, Egypt, Nigeria, Algeria and Morocco – where Islamic banks have only a niche presence, and domestic market shares of less than 10 percent. 

Analysts at S&P said they see the Islamic finance industry as a “collection of local industries” rather than a truly globalised sector. 

“The industry is therefore looking at ways to enhance its competitiveness and appeal to distinguish itself from the conventional fixed-income market. Streamlining products and processes to make them more appealing to new issuers is one of these methods,” S&P noted.

According to S&P, the global Islamic finance industry will see growth of about 10 percent in 2023-2024, following similar expansion last year, largely driven by GCC countries. 

“Elsewhere, growth was either muted or held back by local currency depreciation,” analysts said. 

Structural weaknesses still curb the industry’s broader geographical and market appeal, they added.

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