The credit crunch and the global financial crisis may have put a dampener on the sukuk and real estate market over the last year or so as investors retrench into cash or short-term instruments and exercise caution in their asset allocation strategies.
In London, Istanbul, Kuala Lumpur and Dubai, a few asset managers and investment companies have started to think outside the innovation black box and have launched pioneering new retail Islamic financial products such as exchange-traded funds (ETFs) and exchange-traded commodities (ETCs) backed by physical metals or soft commodities. Although this market is nascent and the regulator, asset manager and retail investor learning curve still steep, ETFs and ETCs hold out exciting new possibilities for the Islamic finance market especially as an alternative to the contentious commodity Murabaha. Dubai Gold Securities (DGS) is one such ETC — an initiative of the World Gold Council and the Dubai Multi Commodity Center (DMCC) — which offers investors a simple, secure and cost-effective Shariah-compliant way to access gold. Here Grant Collins, senior managing director, Dubai Commodity Asset Management (DCAM), a wholly-owned subsidiary of DMCC, discusses with Mushtak Parker the rationale behind the launch of Shariah-compliant ETFs and ETCs; the case for investing in products evidenced by physical metal such as gold; and the need for product innovation in the Islamic finance space, especially in retail investments, beyond the vanilla real estate and sukuk products.
Excerpts:
Why have ETCs and ETFs been slow to take off in the Islamic finance space and in the GCC countries?
The capital markets in the GCC area are in a nascent state of development. In many of the jurisdictions the regulatory infrastructure just does not exist to support ETFs and ETCs at the moment. While these products have gain general acceptance in the US and North America, even in the UK and Europe they are a relatively recent innovation and not so widely known among the retail base. The Dubai Gold Securities (DGS) is the first ETC — whether conventional or Islamic — to be offered in the MENA Region. We chose a jurisdiction such as the Dubai International Financial Centre (DIFC) because it gave us the legal certainty and top regulation that we were looking for in terms of launching that product. DGS are Shariah-compliant securities backed 100 percent by physical allocated gold bars and traded like an equity on a regulated stock exchange — in this case the Nasdaq Dubai. We launched DGS in March this year admittedly in a very difficult economic and financial environment. Given the nascent nature of the equity culture, we have actually participated in this market education process, particularly of the retail community. But given the cultural propensity for gold investment, it made sense that in order to enter a new market it would be better to move with gold. Also Dubai is called “the City of Gold” and has a great tradition in the trading of gold.
What exactly is the underlying type and quality of physical gold assets?
It is gold bullion held in an allocated account held by the custodian, HSBC Bank (USA). The gold in question is London Good Delivery of the London Bullion Market Association (LBMA) and complies with all their criteria in terms of purity and consistency.
What has been the uptake experience of the DGS ETC in its first five months of offering?
It has been slow so far. We have about $5 million in investment, but we have been encouraged by the trading. We have traded over 28,000 securities — about $2.5 million worth — on Nasdaq Dubai. We are cautiously optimistic about the Fourth Quarter both for the investment and trading of DGS. It took a big lead-time to develop and introduce the product. Because it is a new product, the market education relating to such products will take some time. Our Shariah board, whose executive director is Sheikh Yusuf Talal De Lorenzo, has been very hands on in facilitating a top retail Islamic investment product evidenced by physical gold. At its core DGS is a simple classical Islamic product. It is true in what it says it is — a certificate — a sukuk. It is effectively a certificate that evidences an investor’s ownership of an underlying metal, which is physical, defined quality and quantity, no delay in delivery and no delay in consideration.
Do you see any potential for the use of ETF/ETCs as an alternative to commodity Murabaha or Tawarruq transactions?
I do not think it will work as an alternative to commodity Murbaha, but I do see potential for the use of the mechanics of an ETF/ETC as an alternative to Tawarruq. In the ETC, one has a certificate and that certificate evidences legal ownership, which is critical when it comes to delivery of an underlying metal. I do think there is some potential in utilizing a certificate as opposed to the LME1 which is a certificate that evidences ownership of the underlying, but the ETC is also fully transferable. Some scholars have doubts about the validity of the underlying transaction in a Tawarruq, especially a minimum amount of metal being turned over.
How are Dubai Gold Securities currently distributed in the market?
We at DCAM are the marketing agent for DGS. We are not a brokerage but licensed as an investment company by the central bank of the UAE. It is our role to stimulate and generate institutional and retail demand for Dubai Gold Securities. We are educating brokers, salesmen, and through retail-type events. We have to have a holistic approach to educate the market.
How do you see Islamic investment banking and capital markets developing in a post credit crunch era? Where will be the value added in terms of asset allocation and products?
While the Islamic sector has come out rather well from the credit crunch generally as opposed to its conventional peer group, in terms of asset allocation strategies, there has to be broader spectrum of asset classes not just real estate and sukuk. A number of investors have suffered because of over-exposure to real estate and a number of sukuk that have been real estate focused. There also needs to be a broader development of what the underlying is in transactions. I see good opportunities for broader Islamic asset diversification strategies in the infrastructure sector, and particular the Islamic retail finance market. At the retail level there is growing demand for diversified Shariah-compliant products, but on a cost-effective and competitive basis.