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Hedge Fund Monthly
 

Key Trends in the Takaful Landscape

Bernardo Vizcaíno, Eurekahedge

March 2008
 

The Eurekahedge Islamic fund database has grown from its launch in 2006 to now encompassing information on more than 550 Shariah-compliant funds, keeping up with an industry that saw 131 new launches in 2007 alone. Despite this healthy growth, takaful-dedicated funds are few and far in between (with notable examples in Malaysia, Singapore and Bahrain). However, this doesn’t properly reflect the emergence of takaful and its importance in the overall Islamic funds industry.

The assets in global takaful operators have grown steadily, from an estimated USD500 million 1998, to USD2 billion in 2005, and projected USD7 billion by 2015. The sustained growth required to achieve this target is exemplified by the Malaysian takaful industry as seen in table 1 below.

Table 1: Malaysia Takaful Indicators

 

2001

2002

2003

2004

2005

2006

2007
(interim)

Number of Takaful Operators

2

3

4

4

5

8

8

Fund Assets (MYR million)

3,019

3,626

4,429

5,028

5,878

6,899

7,600

Annual Growth (year-on-year growth)

NA

20%

22%

14%

17%

17%

20%

% of Total Assets (of insurance industry)

5%

5.3%

5.6%

5.6%

5.7%

5.9%

6.3%

Source: Bank Negara Malaysia, Eurekahedge

Indeed the 20% growth rate is the norm for global takaful, with certain markets well-exceeding this figure. Furthermore, the evidence also suggests a gradual increase in market share against conventional insurance. In the following section we delve further into some key implications of this growth.

Key Trends in the Takaful Landscape

Takaful as a Key Institutional Investor: Islamic funds have found their appeal with retail and HNW individuals, but institutional investors (including Islamic pension plans) are bound to grow in importance. This implies more sophisticated requirements: greater diversification, longer track records and heavier scrutiny of risk-adjusted returns. The arrival of takaful assets foretells a second wave of growth for Islamic funds, with a greater focus on Shariah-compliant products than the current driver of GCC liquidity (which doesn’t necessarily seek Islamic products exclusively).

Takaful as a Driver of Discretionary Portfolios: While demand for pooled vehicles will remain strong, more operators would seek to customise their portfolios via segregated accounts, a common trend in the SRI industry.  In fact most SRI assets are placed not in mutual funds but rather in discretionary portfolios (92% in the US and 79% in Europe). Furthermore, the size of takaful operators wouldn’t always justify an in-house asset management team, prompting outsourcing of several components to specialised firms (ie for allocations into real estate, alternatives, etc). This could also widen the demand for fund of funds programmes as a more standardised alternative.

Takaful as a Fully-Compliant Investor: Despite the above comparison to SRI (global assets at approximately USD2.3 trillion), takaful operators will fully allocate into Shariah-compliant instruments, making their impact far more prominent. Conventional insurance/pensions are not required to fully invest in SRI, and in some cases these are marginal allocations. Takaful, on the other hand, also has much more elaborate requirements (Shariah screening and compliance), whereas 80% of SRI screening is focused purely on tobacco and alcohol exclusion. In this sense takaful must not only seek a few compliant products but take a portfolio-wide approach that tackles all asset classes.

Takaful as a Source of Product Demand: While the growth and issuance of sukuk seems to grab more headlines than takaful, the two go hand in hand. In fact, sukuk can be regarded as being driven by product supply (especially from government and government-linked issuers), whereas takaful exemplifies product demand (and fixed income being the most prominent product gap). What remains to be seen is whether the appetite of takaful is strong enough for it to allocate into products with shorter track records (such as emerging markets and alternative products). Furthermore, conventional insurance allocates extensively to balanced funds, and the demand for these mixed-asset funds should also be expected from takaful investors.

The Asset Class Mix for a Takaful Portfolio

In order to assess product gaps, we analyse the current mix of Shariah-compliant offerings (in terms of asset classes) as outlined in the heat map shown in table 2 below. We collate the asset class mix of Islamic funds by geographical region and compare this to a global portfolio of conventional mutual funds. We use statistics from the Investment Company Institute (ICI), which surveyed over 61,000 mutual funds across the globe.

From the perspective of a takaful investor, equity funds dominate across all regions (from 49% to 67% penetration), but there is a notable lack of balanced products across the board (with the exception of the Asia-Pacific region). On the other hand, money market funds also seem to be well received, particularly in Global and Middle East mandates (at 27% and 14% respectively), offering valuable liquidity. Also noticeable in the Others category is the popularity of European and North American real estate products, as well as Middle East multi-manager portfolios. As mentioned earlier, fixed income products seem to be lacking in all but one of the geographies.

Table 2: Islamic Funds Asset Class Mix

 

Investment Geography

Classification

Asia Pacific

Europe

Global

Middle East

North America

Total

Equity

51%

67%

54%

49%

63%

52%

Fixed Income

13%

0%

1%

5%

0%

7%

Balanced

15%

7%

8%

7%

0%

10%

Money Market

10%

0%

27%

14%

8%

13%

Others

11%

27%

10%

26%

29%

18%

Source: Eurekahedge, Investment Company Institute (ICI)
Green: Within 10% boundary
Yellow: Below 10% boundary
Grey: Above 10% boundary

In Closing

Overall, the prospects for takaful are very healthy and will remain so for the foreseeable future. However, as this investor group develops further, the implications for the asset management industry are increasingly important – if not critical. Takaful can not only increase the number of available products (by highlighting the various product gaps), but it can also enhance the level of investor sophistication as well as rejuvenate the debate on how to build a fully Shariah-compliant portfolio.

 

If you have any comments about or contributions to make to this newsletter, please email advisor@eurekahedge.com

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