Family offices have been around in one shape or form for many years. While a ‘family office’ can be organized across a broad range of legal entities or relationships, at its simplest, the term ‘family office’ is one that refers to a corporate entity that manages the wealth of a family or group of families through a series of trust or other investment structures. JOHN L OPAR and BARRY COSGRAVE believe Islamic finance has a bright future in family offices.
Reflecting the growing prosperity of those regions, family offices are today particularly common in the GCC and South East Asia which means Islamic finance and Shariah compliant investment structures can be of significant interest. As the economies of Muslim countries throughout the world continue to grow, family groups have increasingly sought bespoke solutions to protecting the wealth of future generations through portfolios that include property, equities and other structured investment products. Family offices also typically involve some form of philanthropy which also lends itself well to the moral obligation of all Muslims to pay Zakat each year.
Review of 2014
2014 witnessed continuing demand from family offices for investment solutions. Much of the capital to be deployed has come from family offices seeking investment opportunities that offer attractive returns but which also accord with the principles of Shariah. For many, the opportunities to invest in line with their religious beliefs have often been too scarce thus leading them to maintain cash deposits. However, throughout 2014 a growing number of Shariah compliant asset classes have attracted investment from family offices including in the form of Shariah compliant feeder funds that offer investments in assets such as real estate, commodities and agriculture and that provide returns comparable to their conventional counterparts. The key to such investments is that the underlying assets do not violate the core principles of Shariah. Residential (multi-family) property is an obvious asset that serves this purpose but additional opportunities in agriculture, commodities and shipping have also proved attractive.
However, 2014 also witnessed family offices come back into the limelight for less positive reasons with the announcement of the European Union (EU)’s proposed Fourth Money Laundering Directive. This directive seeks to broaden the scope of disclosure requirements of family offices in what has been claimed to be an effort to combat money-laundering and terrorist financing. The directive seeks to increase the obligation on family offices to make disclosure around the fairly nebulous term ‘beneficial owner’ and proposes a public register of such beneficial owners. The unintended consequence of this regulation may be that it encourages family offices to relocate from the likes of Luxembourg and the Channel Islands to less regulated centers. Family offices generally regard privacy and confidentiality as one of the main, if not the key, factors in choosing a jurisdiction of domicile for investment vehicles and as such this may give pause for thought to family offices establishing new structures.
The Alternate Investment Fund Management Directive that took effect in the EU in 2014 is another example of a regulatory regime that may be applicable to advisors of multiple families. In the US, the renewal by the United States Commerce Department of reporting requirements for foreign investors in US real estate similarly highlights increased scrutiny on foreign investment into the US.
Preview of 2015
Succession planning in the traditional Islamic finance regions of the GCC and South East Asia is set to become ever more important in the coming years as high-net-worth individuals and families seek to protect wealth and insulate future generations from the vagaries of market swings including in oil prices and other asset classes. One way to protect against such shifts is to invest in a broad range of asset classes. However, Shariah compliant family offices have often been restricted to investments in purely Shariah compliant funds or a restricted range of equities. The challenge for wealth managers is to provide innovative investment solutions to these family offices that include greater access to conventional funds through feeder fund structures and Shariah compliant structured investment products.
Wealth and asset management advisors in the Islamic finance sphere may also benefit from aligning themselves with conventional ‘ethical investment’ funds which may offer a strong development opportunity for Shariah compliant investment products. The investment spheres of ethical funds and Shariah compliant funds overlap to such a degree that perhaps the only Haram asset class that would not also be forbidden by an ethical investment fund is that which relates to investments in pork-related products. Just like Islamic investment funds, conventional ethical investment funds eschew investments in alcohol, gambling, arms manufacture and tobacco (among other things). Ethical investment funds also avoid high leverage and investments in highly speculative derivative products. If Islamic wealth managers and ethical investment funds can combine their expertise we may see rapid growth in investment products that are Shariah compliant but that are not considered to be exclusive to Muslim investors. This should create a virtuous circle of innovation that may lead to a growth in investment products available to Shariah compliant family offices. The recent announcement by Abu Dhabi Islamic Bank that it is considering changing its name to ‘Abu Dhabi International Bank’ and Noor Islamic Bank’s decision to re-brand as ‘Noor Bank’ is evidence of the growing alignment of Islamic finance with the conventional ethical investment sphere and it will be interesting to watch its development over the coming years.
The opportunities for Shariah compliant family offices continue to grow but the industry still faces the task of creating a broader range of investment products as a destination for available capital. There are a growing number of Shariah compliant assets coming to market and this is providing family offices with greater choice and competition in product offerings. As the industry continues to evolve family offices should be presented with a broader range of asset classes in which to invest allowing an asset allocation with a better spread of exposure and increased certainty for the future.
John L Opar is a partner in the New York office and deputy global head of the real estate group of Shearman & Sterling and Barry Cosgrave is a senior associate in the finance group of the London office of Shearman & Sterling. They can be contacted at [email protected] and [email protected] respectively.