Recent reports suggest a gloomy outlook for the UK economy as business and consumer confidence wavers with a recent change in government, rising costs of living and record-breaking inflation. However, the UK continues to attract interest from investors, particularly from dollar-denominated regions including the GCC.
While interest rates might cause real estate investments to dip, alternative investment areas such as Islamic fintech and ESG investments are having their moment in the sun. Over the past year, we have witnessed dramatic growth in the Islamic finance sector.
The market is currently worth over US$2.2 trillion, a staggering figure which has piqued the interest of private equity and venture capital investors. And it is no wonder, when there is so much about the industry and the way it has developed in recent years to entice them.
Review of 2022
Over the past year, the Islamic finance sector has grown in recognition as a key asset sector. Muslims comprise roughly a quarter of the world’s population, and just over 6% of the UK’s population. In spite of its size, the community continues to be one of the most underserved and marginalized groups globally.
Investment in Islamic finance and fintech promises to serve this rapidly growing market and improve their financial wellbeing by improving access to Shariah compliant financial products and services. The sector has also been bolstered by increased standardization and digitization. Islamic finance is rapidly adapting to new technology which cuts costs, sparks innovation, improves transparency and increases participation.
Islamic start-ups founded on ethical values which are central to the Shariah are becoming more closely aligned with ESG investing, an area of concern for established investors and new market entrants alike.
But investors are not just curious about the possibilities of Islamic private equity. A recent spate of successful funding rounds for Islamic start-ups demonstrates their belief in and commitment to the potential of this still relatively nascent sector.
In June this year, Gulf Islamic Investments announced a majority investment in OFFA, the UK’s first Shariah compliant bridge financing provider for the real estate market. UK-based Islamic finance platform IslamicFinanceGuru raised GBP3 million (US$3.36 million) in investment funding in July 2021 in a seed funding round led by Outward Venture Capital and joined by B&Y Venture Partners.
Clearly, there is some cause for celebration. But while there has been growth in equity financing available to start-ups, Muslim-founded start-ups are still missing out. Of the top 20 venture capital firms surveyed in the UK, only 3% of financed start-ups have a Muslim founder.
So what lies ahead and what needs to happen for the Islamic finance industry to flourish?
Preview of 2023
The global Islamic finance industry will expand by 10–12% this year and the market for Islamic financial products and services is predicted to grow as well. The UK Islamic community alone is forecast to grow from 6% of the world’s Muslim population to 17% by 2050.
The industry is positioning itself toward more sustainable growth, which will involve:
• Increased standardization and integration of the industry — we will see progress on a unified global legal and regulatory framework for Islamic finance.
• More issuance of dedicated social Islamic finance instruments and green Sukuk — the sector looks set to leverage and more closely align its values with ESG values.
• More digitization and fintech collaboration — this will strengthen the industry’s resilience to disruptive events, eg global pandemics and stimulate more growth opportunities.
However, we cannot afford to sit back and watch these developments unfold. We need to maximize their impact in the following ways:
• Promote socially impactful and values-based initiatives and platforms such as Nester and Algbra and recognize that we, as practitioners, owe more to the Islamic finance industry and its foundational principles than simply promoting Islamic versions of conventional products.
• Make standardization inclusive — we need to avoid overcomplicating requirements which risks slowdowns such as that witnessed in global Sukuk issuance following the adoption of AAOIFI standards.
• Ensure timely implementation of policies — energy transition (particularly from historically fossil-fuel-heavy regions such as the Middle East) needs to be at the forefront of policymakers’ minds to avoid slowing the expansion of social Islamic finance products.
• Use tech to improve industry resilience — we need to make more bank services digitally accessible and use platforms like blockchain to issue Sukuk while enhancing cybersecurity.
• Increasing the visibility of Islamic finance start-ups — the venture capital industry is set up to work around networks. We need to champion start-ups and provide aspiring entrepreneurs with role models and mentors by communicating success stories and promoting investment outside London and in more ethnically diverse areas.
Conclusion
Private equity and venture capital investors are growing increasingly excited about Islamic finance and Islamic start-ups. As we have explored in this article, they are right to get excited, as they have an ever-expanding menu of cutting-edge Islamic businesses to select from. But more needs to be done to prepare the Islamic finance industry for future growth and ensure it meets its full potential.
Zahir Nayani is a partner at Foot Anstey. He can be contacted at [email protected]. Rachel Griffith, a trainee solicitor at Foot Anstey, assisted in authoring this report. She can be contacted at [email protected].