ARX rolls out ethical desk, eyes shariah offering

Led by Dermot O’Reilly (pictured), head of ethical finance at Arx Financial Engineering (Arx), the Arx Ethical Finance Desk will offer a range of ethical funds and sustainable structured investments to respond to client demand.

“This is one area that the Islamic finance space has struggled to capture,” says O’Reilly. “[We have] already started talking to clients and proposing ideas and have received a number of reverse enquiries at the end tail of meetings enquiring if it was possible to structure deals Islamically.”

We think the Islamic finance market offers opportunities for ESG structured products  - Dermot O'Reilly

Although, the firm obtained its Category 3 A licence from the Dubai Financial Services Authority (DFSA) in April of this year, to certify anything as Islamic, Arx must have an Islamic endorsement on its licence for which it will make an application “in due course”.

There are several entities that can structure deals Islamically using what is known as an ‘Islamic sleeve’. However, most trades are done on a reverse enquiry basis with the odd Shariah-compliant structured product done on an ad hoc basis.

“The majority of product providers sit and wait - whenever they got something, they put it together using generally the suite of documents that they have already signed with the client which they amend in some way,” says O’Reilly. “They then get the Sharia Scholar approval and go away to sell it.”

According to O’Reilly, ESG products are well positioned to capture some of the volumes going to Shariah-compliant products as a lot of the Islamic principles dovetail with ethical financing, governance and sustainability.

“I think there's a lot of scope for the development of that business in the region as suggested by the number of clients asking for Sharia-compliant structured products solutions,” says O’Reilly. “In my years, I've seen quite a few of these so I know what the solutions are and what has been approved by Sharia Scholars over the past years.”

One of the first green sukuk ever issued was the Five-year Fixed Rate Trust Certificates – Sukuk launched by the Islamic Development Bank two years ago under its US$25 billion Trust Certificate Issuance Programme which raised US$1.25 billion.

ESG has a lot of similarities with shariah-compliant structures and it is “a very easy fit because a lot of entities have now mandates and big budgets allocated to sustainable investing, but they need to find the solutions”.

“We think the Islamic finance market offers opportunities for ESG structured products because there are many big financing projects (solar parks, green hydrogen, etc.) and a lot of the countries looking for funds to develop these projects,” says O’Reilly.

“This is the way it was done for project financing in the petrochemical industry, which is not necessarily ESG, but the model is there, the structure is there, it can be done. It's a really interesting space that we have seen growing in other markets.”

Increasing demand

Dermot O’Reilly: Everyone in the region is looking to build their credentials in this space and allocating money to ESG not only because it's a hot topic but because the carbon footprint of the UAE is pretty dreadful and there is a desire to improve it. And one thing about this part of the world is that, if a decision is made to do something, it will happen, it will get done.

We think we can build a presence in this space and take advantage of the current reverse enquiry set up. We can be proactive, flexible, and quick, and we can work with clients to capitalise on opportunities. A bank has to go through all the compliance and various committee filters and eventually when the deal is finally approved by the bank, it's too late for the client.

Unique offering

Dermot O’Reilly: Every large organisation has factions fighting other factions, and there's just a lot of bureaucracy and general time wasting. The brokerage model lets you do what's in front of you. If you get a sniff of a deal it will be done quickly because the goal is to service the client's needs and do it as quickly as possible. That's quite refreshing when you’re coming from a compartmentalised institution, such as an investment bank.

We're not an Islamic structured product shop at the moment (Islamic endorsement from the DFSA is required) so we need to talk to other providers that can deliver the solution, but if opportunities come up around Islamic finance or cryptocurrencies comes up, we can get the ideas and conversations to roll down the hill and gather momentum, and suddenly it might maybe get done. But if ARX is not in the market at all, it will miss on these opportunities. We aim, once the appropriate licence is in place, to be a force for innovation in the Islamic finance market. We will have renowned Sharia scholars advising us and will be nimble in our approach.

Tailor-made

Dermot O’Reilly: We live and die for our clients and we actually help them achieve their goals and get them the best price out there. We have relations with financial institutions, but we're an open architecture firm so if a financial institution cannot deliver what our client needs, then we don't go with them. We will knock on all the doors and get the best solution for our client.

If there isn't a solution, our approach is not to waste everyone's time. You can be a busy fool in the brokerage world, and that doesn't serve anybody's interests.

We have had a number of conversations with clients who are interested in looking at ESG structured products because of the minimum ticket sizes of sought after Islamic funds – it is early days but this is an area we want to develop and proceed further with our clients. We have a number of relationships with a number of the issuers and we can deliver solutions of interest on the primary side but also on the secondary side - our desks that can show you what's available in the market.

We believe the digital assets market is going to explode in interest and value. There's quite a lot of debate in the Islamic finance world as to whether or not cryptocurrencies (really crypto assets and non fungible tokens) are Sharia compliant, and we want to develop our own screening methodology for Sharia compliant crypto assets, though this will take some time to put together

Product agnostic

Dermot O’Reilly: We're completely agnostic as to how the client wants to implement a strategy, but when you're dealing with an Islamic bank, everything has to be approved by their Sharia board, but when you're dealing with individuals or family offices, it's up to them so there may be a little bit of leeway there. However, that's again entirely up to the client.

The interpretation of Sharia is an entirely subjective matter and there have been cases where debt restructuring has been dressed up as a Sharia compliance issue which has put a number of investors off at Islamic Finance in general and Sukuk, in particular.

We want to be able to respond to demand and leverage the CAT group’s track record in the structured products market as a provider of products specifically tailored to meet their client’s goals and risk. The objective with the Ethical Finance desk is to get the same level of flexibility and agility for clients in future. As Islamic investors in this region become more and more sophisticated, we think they will reallocate capital from deposits that are paying nothing here and offer essentially negative rates if the right transaction can be structured for them.