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Sun 13 Jan 2008 04:00 AM

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Hong Kong's Islamic New Year

Hong Kong is transforming itself into an Islamic finance centre. But can it really succeed?

When Jawaher Al Sudairy began talking about the sands of Saudi Arabia, her audience listened attentively. At a recent luncheon meeting at the Hong Kong Chamber of Commerce, the China director of the Saudi Arabian General Investment Authority captivated Hong Kong business executives about the fortunes lying underneath the sands of the Kingdom. And she wasn't talking about oil. Al Sudairy was pitching mining opportunities in Saudi Arabia.

There's a hunger in Hong Kong to know more about the Middle East these days, fueled in part by the recent buzz created by the city's leader, Donald Tsang, that Hong Kong will open its doors to Islamic banking and finance, promising to create an Islamic bond market and to bring in more of the Middle East's petrodollars into the city.

Hong Kong still has to review its infrastructure to accomodate Islamic finance. Dubai may be the Hong Kong of the Arabian Gulf, but HK wants a slice of the region's growing wealth. "The Islamic financial sector has enormous potential and opportunities... To further consolidate Hong Kong's position as a global financial centre, we should do more in this regard," Tsang told bankers in November.

The interest goes both ways. Middle Eastern financial institutions and companies have been investing in Hong Kong's rising stock market and property sector. HSBC's local unit, Hang Seng Bank, for instance, decided to introduce Hong Kong's first Islamic fund after being approached by a Middle East financial institution in 2006 to help manage its investments in Hong Kong and China. Last year, Dubai Investment Group, part of the government's Dubai Holdings, bought a roughly 10% stake in Sun Hung Kai Financial, one of the city's largest non-bank financial institutions and a unit of one of Hong Kong's biggest property developers.

Still, Al Sudairy says, the Greater China region remains unfamiliar territory to some back home.

"The interest is there, but the knowledge or the understanding is still building because Hong Kong and China are very new [markets]," she says. "A lot of them will come but they are still not clear how to penetrate the market, I think".

Unlike its neighbors to the south - Malaysia, Indonesia and Singapore - Hong Kong is a latecomer in the highly lucrative and competitive Islamic banking and finance industry. Predominantly Muslim Malaysia has already gained a reputation as an Islamic financial center in Asia and as one of the world's biggest sukuk markets.

Can Hong Kong compete?

Early this year, Tsang and Hong Kong's financial secretary John Tsang (no relation), will be visiting the Middle East to sell Hong Kong. But some say it takes more than a high profile road show to attract a flood of Islamic funds, even if Hong Kong and mainland China's prospects are bright.

The main drawback, at the moment, appears to be infrastructure. Although it possesses a sophisticated financial system, Hong Kong still has to build a support system for Islamic banking and finance alongside its Western financial infrastructure. That system, some say, is critical in creating a climate where Islamic investors can feel confident that their investments strictly follow Islamic principles. This includes shariah compliance certification, Islamic financial reporting standards, and a legal platform to settle disputes relating to Islamic investments or financial instruments.

Lord Edwin Hitti, a Lebanese businessman, has been at the forefront of setting up the building blocks of Islamic banking and finance in Hong Kong. As chairman of the Arab Chamber of Commerce and Industry, Lord Hitti last year helped form Hong Kong's sole shariah compliance certification body, and the Hong Kong Islamic Stock Index.

"Hong Kong is ready from a psychological point of view. But from a practical point of view, Hong Kong still has to make certain accommodations," he says. "Hong Kong still has to review and restructure its infrastructure to be able to accommodate Islamic finance, Islamic banking and shariah law within its current conventional settings.

He cites that two of the city's largest banks - HSBC and Standard Chartered - are well-known players in Islamic banking and finance in the Gulf and in Malaysia but have yet to offer the same services in Hong Kong.

"Why the hesitation to say we offer these services in Hong Kong? It will not take major changes for them... The reason, I say, is because the Hong Kong legal system is not at this point able to deal with any area of conflict pertaining to shariah, and because the accountancy system and the tax system do not have any provisions at the moment to deal with Islamic practices," says Lord Hitti.

Setting up the proper infrastructure may prove a tall order. After all, Malaysia started the development of Islamic banking and finance in the 1980s, first with the issuance of an Islamic Banking Act as a legal basis for the creation of Islamic banks.
The Hong Kong Monetary Authority, the de facto central bank, has set up a study group to examine what needs to be done, and government officials have traveled to the Middle East and Malaysia last year to study the Islamic financial system. This month, the Monetary Authority and the Chamber of Commerce has held a series of Islamic banking workshops and briefings for local bankers and businessmen to bridge the information gap.

Infrastructure issues aside, many are banking on Hong Kong's ingenuity - its tested ability to reinvent itself in the face of shifting global trends - to prevail over its competitors. "Hong Kong people have always been very sharp, very opportunity oriented. The minute they see gain, profit and capital they move very fast," says Lord Hitti.

A weakening US dollar could serve as an impetus for more Middle East investors to come to Hong Kong

Since the handover to China from Britain in 1997, Hong Kong had struggled to find relevance in an increasingly more open and prosperous China. Yet, in dealing with the Middle East, its position as China's premier financial centre is Hong Kong's biggest advantage.

Lord Hitti says Malaysia, Indonesia and Singapore have benefited from the eastward move of Islamic funds after the September 11th attacks in the United States, but he says these markets can only offer so much. China is a much bigger market. "In order to address China, there is only one choice and that is Hong Kong," he says.

Chinese blue chip companies are openly traded in Hong Kong, and many more big Chinese companies are queuing up to list here, making the city's stock market a barometer of China's economic rise. Most importantly, by investing via Hong Kong, transactions are protected by Hong Kong laws rather than the mainland's.

"I think Hong Kong... is also benefiting from being widely recognized as a gateway to investing in China," says Rosita Lee, director and head of investment products at Hang Seng Investment Management. Hang Seng's Islamic fund, which tracks the Dow Jones Islamic Market China/Hong Kong Titans Index (up 52% last year), attracted more than US$45m in the first couple of weeks after its launch in November, but mostly from local investors. Lee says the bank will focus on marketing the open-ended fund in the Middle East in the next few months.

A weakening US dollar could also serve as an impetus for Middle Eastern investors to come to Hong Kong. With the Hong Kong dollar pegged to the US dollar, investors based in the GCC and other US dollar-pegged economies may find investing here cheaper than investing in Europe or other parts of Asia.

Hong Kong's bid to attract more Middle East funds comes as trade between China and the Middle East is expected to grow to US$100bn in two years, from today's estimated US$65bn. Both sides sit on trillions of foreign exchange reserves: China from its seemingly endless supply of cheap exports, the Middle East from rising oil prices.

China's hunger for energy and minerals to power its accelerating economy has already led Chinese companies to invest in strategic Middle East industries. Sinomach and China Nonferrous Metal Industries signed a deal with a Saudi-based company to invest in a US$4bn aluminium complex. Back in December, Iran and Sinopec agreed to develop Iran's vast Yadavaran oil field. Also last year, China Railway, which recently listed on the Hong Kong stock exchange, won a contract to build Saudi Arabia's North and South Railway and Hong Kong's biggest telecom carrier, PCCW, was awarded a contract to operate Saudi Arabia's new fixed line network.

On the other hand, big name Middle East companies are also plowing money straight into Chinese industries. Kuwait Petroleum and Sinopec (China Petroleum and Chemical Corp) are building a US$5bn refinery in Guangdong province, China's southern manufacturing hub that has seen gasoline shortages in recent months partly because of low refinery output.

In 2006, the Kuwait Investment Authority bought a US$720m-worth of shares in ICBC bank's IPO, while the Qatar Investment Authority spent US$205m.

Al Sudairy says Saudi investment into China is only a trickle for now but that is bound to change in the short term. "Right now the way that investments are going to China is very random to me. There's no strategy, no certain trend that I can highlight. The investments are coming but they are exploring. I think it will take two or three years or even five years before we can say the Saudis are investing in this area," says Al Sudairy. "Right now, there is no footprint.

In courting the Middle East, Hong Kong is essentially building a bridge to bring together two of the world's richest and increasingly influential regions. If Hong Kong succeeds, that sought-after footprint in Greater China will no longer be a mirage in the desert.

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