Of course, there are still risks.
Damak explained that while 80 to 90 percent of products are largely equivalent to their conventional counterparts in terms of risk, there are unique risk factors in the remaining product mix.
“We took the example of sukuk, where investors who think they have taken a credit risk from the sponsor find that they are exposed to a residual asset risk,” he said.
Sukuk refers to the Islamic equivalent of bonds.
Unlike conventional secured bonds, however, which involve an exchange of financing for a pre-determined series of coupon payments or cash flows, all backed by collateral should something go wrong, sukuk gives the lender an actual ownership stake in the underlying asset. Instead of interest, sukuk provides for real cash flows from that asst.
In this case, if the asset loses value, so too does the ownership stake and thus the value of the sukuk — a risk not shared by traditional lenders.
“In terms of the way we look at it from a ratings perspective, we’ve just updated our methodology to rate sukuk, and we’ve identified instances where the rating on the sukuk can be different from the rating on the sponsor, capturing specifically these risks,” Damak said.
In light of this, there is an obvious need for Islamic banks to understand the features and risk factors of underlying assets when considering a financing decision. For example, an Islamic bank might need to focus more aggressively on understanding local real estate markets, where they tend to have greater exposure.
Combine this with a strong principle-based business model on the whole, and the extra legwork Islamic banks put into their operations could result in relatively higher pricing for customers.
“On the products… they are obviously relying on Islamic principles, but they tend to mimic conventional products. That’s where we see difference in pricing, and the pricing seems to be unfavorable to Islamic products because of that,” Samira Mensah, associate director in the financial institutions sector for Africa with Standard & Poor’s, told AFKInsider.
However, for some customers at least, that extra cost is worth it.
A survey in Pakistan revealed a widespread perception that customer service is higher at Islamic banks: in fact, service and customer satisfaction are the main reason survey-takers gave for using Islamic banks as opposed to their conventional counterparts. Only 23 percent cited religion.
In terms of growth, Islamic financiers still have much work ahead of them. As of 2013, Islamic banks held $1.7 trillion in assets — comparable to the size of Wells Fargo, the fourth-largest American bank.
To gain market share in Africa, which is wide open for innovative financial products, won’t just be a matter of appealing to religious beliefs, then, as the above studies make abundantly clear. Rather, it will be about mass education.
The Pakistan survey found that 83 percent of banking customers simply didn’t feel they understood Islamic finance, and there was significant confusion about the different types of institutions and the rules they follow.
Barajas, Ben Naceur, and Massara would probably agree.
They wrote, “A major obstacle is an informational one, both in terms of communicating to the public what institutions and services are available, and the nature of the contracts that are implicit in these Islamic financial transactions.
“Getting past these informational hurdles will be crucial—along with the actions we propose in other areas—to ensuring that Islamic finance becomes a more mainstream actor, side by side with conventional banks and contributing to financial access and equitable growth.”
