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Islamic Liquidity Management Issues. ISLAMIC BANKING AND FINANCE Lebanese American University, School of Business, Irwin Hall, Beirut, Lebanon February 23–24, 2006 Warren Edwardes, ceo , Delphi Risk Management Limited e : we@dc3.co.uk w : dc3.co.uk. Delphi’s website contains :.

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islamic liquidity management issues
Islamic Liquidity Management Issues
  • ISLAMIC BANKING AND FINANCE
  • Lebanese American University, School of Business, Irwin Hall, Beirut, Lebanon
  • February 23–24, 2006
  • Warren Edwardes, ceo, Delphi Risk Management Limited
  • e: we@dc3.co.uk
  • w: dc3.co.uk

Warren Edwardes

delphi s website contains
Delphi’s website contains:
  • articles on Islamic banking on:dc3.co.uk/ibnews
  • The full speech will be on:
  • dc3.co.uk/IslamicLiquidity060218.pdf
  • with PowerPoint on
  • dc3.co.uk/IslamicLiquidity060218.ppt

Warren Edwardes

thoughts on liquidity
thoughts on liquidity
  • More than listing
  • Is there a buyer when you are a seller?
  • More than negotiable
  • At what price?

Warren Edwardes

thoughts on liquidity1
thoughts on liquidity
  • British Gas
  • Falklands War
  • Dumping of Aaa A1-P1+CP
  • Don’t hold paper in the news

Warren Edwardes

thoughts on liquidity2
thoughts on liquidity
  • Midland Bank
  • Crocker bank led to dumping of Midland CDs
  • Don’t hold paper in the news

Warren Edwardes

thoughts on liquidity3
thoughts on liquidity
  • Continental Illinois
  • Plenty of “liquid” assets
  • No diversification of liabilities
  • mainly wholesale and few retail customers

Warren Edwardes

thoughts on liquidity4
thoughts on liquidity
  • Access to determinate amount of cash
  • When you need it
  • Preservation of capital on demand
  • Free from price risk
  • Undoubted quality low credit risk and be seen to be so
  • Need a quality Triple-A overnight instrument with stable capital values

Warren Edwardes

background to islamic liquidity
Background to Islamic liquidity

“Islamic banking is having a growth spurt. ….

shortage of inter-bank liquidity,…

signs that tentative moves are being made to address these shortcomings.”

Middle East Economic Digest

December 19, 1997 – over 8 years ago!

Warren Edwardes

background to islamic liquidity1
Background to Islamic liquidity
  • Asset/liability gap management
  • Shortage of instruments
  • LMC /IIFM initiatives
    • Numerous Sukuks including Malaysia, Bahrain & IDB Sukuks
  • Liquidity and price transparency is required for an active secondary market
  • Issues oversubscribed but minimal trading
  • This lack of liquidity paradoxically increases the demand for liquidity

Warren Edwardes

liquidity management
liquidity management
  • Investments long dated – deposits are short
    • massive gap
    • Massive liquidity problem
  • Need flexibility with Shariah compliance
  • Sukuks held to maturity
  • Short selling?
  • Stock borrowing?

Warren Edwardes

liquidity management1
liquidity management
  • LME Murabaha is main destination
    • Bilateral transactions
    • Counterparty limits
  • Some funds exist
    • But not capable of market size transactions
  • Segmentation inevitable
  • Co-operation needed with a market level solution

Warren Edwardes

no inter bank market
No Inter-bank market
  • Balance sheet management problem
  • Cannot easily finance when there are withdrawals
  • So more liquidity than needed by a conventional bank
  • Bilateral Murabaha with break clauses is widespread
  • liquidity vehicles cannot withstand a $100million injection or withdrawal

Warren Edwardes

risk pyramid
Risk Pyramid
  • Sound ALM requires a quality / liquidity pyramid.
  • Most liquid is USD bill or note
    • Nil earnings but price stability vs USD
  • Then a range of bonds from super nationals to governments and funds
    • Most with price risk
    • Some with earnings volatility but fixed price
  • No such highly rated Islamic instruments

Warren Edwardes

risk pyramid1
Risk Pyramid
  • Governments reserves are in gold and government Triple-A paper
  • Fiduciary or trust money should be both liquid and safe and price risk free
  • Basle II is approaching
  • Even before that sound risk management principles apply

Warren Edwardes

risk pyramid2
Risk Pyramid
  • Pyramid of risk
  • Blended portfolio from Triple-A down to Single-B
  • Can interpolate risk between Triple A and Single-A
  • Cannot extrapolate risk from lesser risks to triple-A

Warren Edwardes

risk pyramid3
Risk Pyramid
  • Risk / return trade-off in conventional markets
  • Add to this the Halal / Haram trade-off
  • Need Triple-A Halal instruments

Warren Edwardes

conclusion summary
Conclusion & summary
  • Sukuks bought to hold
    • minimal secondary market for on sale
    • Mark to market and price determination is difficult
  • Shortage of paper
  • Is debt trading really Halal?
  • Novation agreements
    • Cancellation of original purchase and replacement with new owner in contract note

Warren Edwardes

conclusion summary1
Conclusion & summary
  • Asset / Liability problem
    • Long term asset fixed and short term variable deposits
  • No derivatives – yet!
    • Gharrar?
    • Financial Takaful?

Warren Edwardes

conclusion summary2
Conclusion & Summary
  • Lack of short term instruments
  • Sukuks are medium plus term
  • Not price stable or really liquid
  • Shortage of credit lines
  • Wanted an overnight Triple-A, market-sized, liquid, inter-bank market solution where institutions can park their reserves

Warren Edwardes