IIFM Contributions
Over the last several years, IIFM has been able to address the market requirements with respect to three critical areas: Islamic liquidity management, Islamic hedging and Islamic capital market-related requirements.
IIFM is a pioneer when it comes to introduction of standardized product and documentation; evident from its launch of the Islamic financial services industry (IFSI)’s first standardized Master Murabahah Treasury Placement Agreement, followed by the ISDA/IIFM Tahawwut Master Agreement, which is a risk mitigation master documentation not only covering general terms and conditions between the two Islamic transacting parties but also an essential building block towards bringing the required regulatory and legal changes to make the Islamic finance industry more robust. Going forward IIFM has continued in its efforts by putting together standardized product and documentation standards for Islamic hedging and liquidity management.
Update on IIFM standards
Standard on Islamic Inter-Bank Unrestricted Wakalah
In order to provide viable alternative liquidity management, IIFM is currently in the midst of finalizing a documentation standard based on Unrestricted Wakalah for the Islamic interbank market. This project is divided into two stages.
Stage 1
In this stage, issues such as credit, off-balance sheet and on-balance sheet treatment, operational handling of investment as well as indicative rate of return were tackled and completed in November 2012 under the guidance of IIFM Shariah executive committee.
Stage 2
Currently in this stage the remaining issues such as regulatory environment & treatment etc., to be addressed is in progress, moreover, operational guidelines and accounting assessment is being developed to make the standard comprehensive and facilitate the implementation under the guidance of IIFM Shariah advisory panel.
The project is nearing completion and is expected to be available to the benefit of IIFM members as well as the industry in a near future.
Standards on Islamic hedging
The ISDA/IIFM Tahawwut Master Agreement (TMA) is a framework document that provides a globally standardized early termination and close-out mechanism and other legal and Shariah provisions for privately negotiated and widely accepted Islamic hedging products. The master agreement is designed to facilitate the risk management function of Islamic financial institutions (IFIs) including providing a legal framework which in due course will enable the industry to address regulatory capital requirements.
Since the publication of the TMA, our observation and assessment is that implementation has gradually been taking place which is normal for this kind of comprehensive and global agreement. Several institutions have completed their internal implementation process with respect to the TMA while some have benefited in one way or another from key clauses of the TMA particularly the early termination and closeout mechanism.
Moreover, a number of jurisdictions in the GCC are working on either adopting the TMA or making the necessary regulatory changes on early termination and close-out netting in order to facilitate the use of TMA in their respective jurisdictions.
Since the TMA is a framework master agreement which forms the nucleus of Islamic hedging products and documentation, the following products to mitigate the risk are needed:
I. Islamic profit rate swap
II. Cross currency
III. Foreign exchange swap
In its efforts to accelerate the use of TMA, IIFM has published the first product schedule i.e. Mubadalatul Arbaah, or Islamic Profit Rate Swap (IPRS) Standard in March 2012. The IPRS provides the industry access to robust and well developed product documentation under the TMA. It provides protection of IFIs balance sheet from wide swings in fixed and floating profit rates as well as enabling the IFIs to manage its cash flow risk for various Islamic capital market instruments such as Sukuk. The IFIs are in the process of benefiting from this product standard.
Currently work on the Islamic Cross Currency Swap (ICCS) Standard is in progress which when completed will enable Islamic institutions to manage their currency fluctuation and cash flow management. The standard is being developed based on IIFM standardization process; however, efforts are being made to achieve publication as early as possible.
IIFM, after the completion of ICCS standard, will commence the development of the Foreign Exchange Forward product standard which is part of key Islamic hedging products.
One of the related interest areas is the Credit Support Agreement which is required to manage the credit risk of Islamic hedging transactions under the TMA. IIFM is looking into it and may explore this area further.
Standard on collateralized liquidity management
Since the publication of the white paper by IIFM, several institutions in various jurisdictions have tested the viability of collateralized liquidity management product as recommended by IIFM.
IIFM has found this product as viable alternative where Islamic securities, particularly Sukuk portfolios, could be utilized for liquidity management.
As per the IIFM standardization process, a market consultative meeting was held in mid-July 2012 where industry stakeholders (banks, Shariah scholars, legal, accounting, custodians etc) deliberated on issues presented by IIFM and consensus was established that a collateralized Murabahah based on Tri-Party will greatly assist the Islamic finance industry.
The objective of collateralized Murabahah is to make use of Sukuk portfolios which are currently not utilized by banks. As Murabahah is more developed, credit intensive and widely used in Islamic money market, the use of Murabahah as the underlying arrangement is currently part of IIFM Standard development. Further assessment is being carried out for other Islamic contracts which may be used for collateralized product.
IIFM in cooperation with a number of IFI’s, regulators, international tri-party agents and other industry stakeholders has started the drafting process. The draft Collateralized Murabahah Master Agreement is currently under market consultation and IIFM is making concerted efforts to publish this standard as early as possible.
IIFM will continue to assess the industry requirements with respect to Sukuk and other mandated areas of standardization.