Islamic Model of Unit Trust

By:
Prof. Dr. Mohd. Ma’sum Billah
masum@applied-islamicfinance.com
masum2001@yahoo.com
+6019-3699542

INTRODUCTION

Currently, the development of collective investment industry, particularly unit trusts industry has become an important factor of growth of the Non Bank Financial Intermediaries (NBFI) within the Malaysian Financial System. This reflects significant contribution for the economy as a whole. As shown in Appendix 1, the percentage of asset holding in the Non Bank Financial Intermediaries increases from 5.8 % in 1992 to 7.0 % in 1998. Some of the factors contributed to this growth are robust economic growth, low unemployment and inflation rates, increased population growth, increases in per capita income and so forth. In addition to this, the introduction of unit trusts packages based on shariah principles also plays a significant role to boost up the economy for the nation. So, in this paper, I will briefly discuss about unit trusts industry, the development, concept, Islamic unit trusts within the local market, shariah rulings to support unit trusts, advantages and disadvantages of unit trusts, regulatory body related to unit trusts, recommendations to further improve the practice of Islamic unit trusts and the future for unit trusts industry in Malaysia.

2.0 OVERVIEW OF UNIT TRUST INDUSTRY IN MALAYSIA

In Malaysia, unit trust industry started early in 1959 when the first unit trust named Malaysian Unit Trust managed by Malayan Unit Trust Limited was introduced. In 1963, the Malayan Unit Trust was transferred to the South East Asia Development Corporation Berhad. Later, the Singapore Unit Trust Limited and Asia Unit Trust Berhad were as a result of separation from this company.

In 1968, Amanah Saham MARA Unit Trust Management was established in 1968. The fund aimed to pool bumiputra savings, mainly from the rural areas. The introduction of the funds was so encouraging during that year. Amanah Saham MARA Unit Trust Management Berhad and Asia Unit Trust Berhad largely dominated the industry back in 1970’s.

The expansion continued on April 20, 1981 when Permodalan Nasional Berhad (PNB) first introduces Sekim Amanah Saham Nasional. It was aimed to mobilize the savings and increase the corporate wealth of the bumiputra as according to the New Economic Policy. The fund from the unit trusts was largely invested into the various companies ran by bumiputra. As a result of this, PNB managed to attract about 170,000 of bumiputra to participate, just a week after it was launched. A week after that, about 1 million bumiputra invested in the Amanah Saham Nasional which worth RM600 million. This is a record for the unit trust industry since its establishment. Later, the government believed unit trust could be a powerful tool to abolish economic differences among races.

On the other hands, Malaysian Indians were also introducing their own unit trust to improve the standard of living among them. They introduced Amanah Saham MIC-TPG Berhad, with the main focus to promote and mobilize domestic savings among the Malaysian Indians.

The growth in economy in 1990s as a result of growing per capita income, new international ventures, corporatization, rising consumer affluence, booming stock market and such reflects a greater heights of growth for unit trust industry.

The government is very concerns about the growth and development of the industry. So, they introduced several regulatory frameworks and body to monitor the industry. Securities Commission (SC) was established in March 1, 1993 as a regulatory agency to monitor all the unit trust transaction within the market. Among their role is to rationalize and strengthen the fragmented regulatory framework in the industry

The unit trust industry has gone through optimistic performance in the past as well as the future. This can be clearly denoted in Appendix 2. In this diagram, it shows total net assets value for the industry was RM15.72 billion in the year 1992. This value gradually increased to RM43.3 billion as per December 31, 1999. This represents a 175% increment of the total amount. Underlying reasons of this are due to increase in new unit trust management companies, new funds launched and new accounts opened by the investors. This clearly shows to us that the unit trusts concepts and product are really feasible and accepted by the people.

To support this argument, Appendix 3 clearly summarizes the development of unit trust industry in Malaysia from year 1992 to 1999 consecutively. The number of Government sponsored funds increased from 19 in the 1992 to 30 in the year 1999. The net asset value for the funds also increases gradually from RM15.334 billion to RM32.199 billion in 1999. While the development in the private funds are also attractive, 20 in 1992 to 77 in the year 1999. The net asset worth also increases as well, from RM0.386 billion in 1992 to RM11.058 billion in the year 1999. All in all, the market capitalization of the unit trust industry in Malaysia also improves by the year, from RM6.39 billion to RM7.827 billion in year 1999.

3.0 THE CONCEPT OF UNIT TRUSTS

Unit Trust can be defined as a collective investment scheme, which obtained money from pooling the savings from various investors who, shares same financial objectives, investment strategy and risk. Next, these funds will be allocated in a diversified portfolio of authorised investments and managed by the professional managers. The Security Commission’s Guidelines on Unit Trust set out overall regulatory framework of the unit trust such as a ‘deed’ or an agreement that should be followed by the managers, unit holders and managers. In addition, example of the authorised investments allowed by the Security Commission includes approved stocks, bonds, commercial papers, government securities, treasury bills, foreign securities, direct business ventures, unquoted securities and so forth.

From Appendix 4, we can see a framework of how units trust work. Firstly, a trust deed is fund is created for the unit trust. It is an agreement between the trustee, fund managers and the fund’s investors (unitholders). This agreement is made in order to mutual interests of all the party involved.

Again, from the diagram, the unitholders is an individual (s) or institution, which invests in the fund. Each of them will receive a certificate or entitlement, which is known as unit trust certificate. They are not directly acquiring the securities in the portfolio. Instead, the ownership of the fund is divided into a separate unit of entitlement or right. The decreases or increases in the portfolio will reflect the value of each unit. Normally, unit trust investors are small investors who do not have a time look after a specific portfolio investment. So, they prefer to invest in a secure investment portfolio by incurring minimal costs of administration, marketing and research. The unitholders can buy their units at a selling price. The calculation of price for each of the portfolio is based daily and quoted in the newspapers. They can buy at any time before the fund reaching its maximum approved size. On the other hand, they can also sell the units at a buying price at any time. This can be done through the particular fund Management Company.

While the manager is the professional people appointed to manage the operation of the funds. He will invest the money into the authorised investment as approved by the Securities Commission Act 1983 namely securities of companies listed on recognised stock exchange, Malaysian Government Securities, Treasury Bills, Bank Negara Malaysia Certificates and Government Investment Certificates, Negotiable Certificates of Deposit, Banker’s Acceptances and placements of money at call within discount houses, Cagamas Bonds, Unlisted Loan Stocks, Corporate Bonds and so forth. In some exceptional cases, an external investment manager from merchant bank or asset Management Company is appointed to manage the funds. As a return from services rendered by the managers, some service fees are charged based on the agreement agreed upon. Different Company may charge at different rates to their clients. Normally, the cost of capital of unit trust is reasonable; based on the riskiness of the funds.

Unit trust provides a return of investment in a form of growth (capital appreciation) and dividend income. The dividend income is distributed to the unitholders based on their units held. However, the under the unit trust concept, it is not guaranteed. It is based on the portfolio performance. In addition, to protect the funds, the fund management company is not allowed to keep the assets; such as share certificates and bank accounts. So, the Trustee is appointed as a custodian and to ensure the interest of the unitholders are protected.

The main difference for the unit trust and a mutual fund is legal structure. Generally, a mutual fund issues redeemable shares. In contrast, unit trust issues a unit instead of shares. This difference plays a significant impact of performance of each type of investment.

A mutual fund as a closed end fund is normally traded in a secondary market, unlike unit trust. The performance of a share price is very much dependent on market demand and supply forces. While unit trust as an open end fund can only be traded through the fund Management Company.

Unit trust funds can be categorised based on their unique characteristics. Some of them are equity, bond, income, growth, balanced, money market, Islamic fund and so forth.

The equity fund is also known as stock fund. The investments are mainly traded on the stock exchange. This fund is made up of local shares, shares of unlisted companies and so on.

Next, the bond fund is concentrated on investment in bonds and other securities. It is less risky than the equity fund because legally it has first right before the stockholders. Example of the bonds is bank guaranteed, government guaranteed and so on.

While income fund concentrates on securities, which derived its income from bonds, utility stocks money market instruments and so forth.

Lastly, the Islamic fund concentrates on investing in businesses that follows the Islamic principles. However, this type of funds does not limit to type of investors. It is open for all Malaysians regardless their race and religion.

JUSTIFICATIONS OF UNIT TRUSTS ACCORDING TO SHARIAH RULINGS

In Islam, investment under the unit trust concept is in line with the shariah rule. The concept of risks and rewards shared by the unitholders employing the expertise of professional managers conforms to Islamic Principles and already being applied in within the Islamic Financial System. This can be related to specific financial contracts and products namely Murabaha and Musharakah.

Firstly, it comply the concept of Mudaraba. This concept is one of well-known investments permissible under Islamic sharia and widely used by the country practising Islamic system of banking such as Iraq. Generally, Murabaha is a concept in profit sharing where capital and one party is providing labour. Then, the other party will act to manage the money. The profit is shared by both parties according to the agreed ratio this concept can be implied to the unit trust. In unit trust, the capital of a venture is provided by the Trust and the business expertise and management will be responsible for the third party, in this case a unitholders. Then, the profit is divided between the unitholders and the trust as according to the agreement. In addition to this, some unique elements of Mudaraha concept are it is limited to the self liquidating transasctions, the assets must be easily recognisable and must be realised and liquidated so that the profits are easily distributed and its accounts must be recorded properly and be audited.

Next, the concept of Musharaka also can be applied in the unit trust. Within this concept, two or more financiers will engaged in a new project or participate in an established project. All the partners have a right to share total profits from a venture as in the agreement. The managers who manage a fund will be rumenerated in the form of service charge. This is in line the unit trust concept, in which the mechanisms are the same. The main difference is mainly the avenue of the funds; where the funds are being invested. In Islamic Unit Trust for example, the funds are allocated in the authorised investments approved by the Security Commission as well as the Shariah Board. In addition to this, the profit is shared after deducting management fees and payment for zakat.

EXAMPLE OF ISLAMIC / CONVENTIONAL UNIT TRUSTS IN MALAYSIA

There are many types of unit trust in Malaysia. For the purpose of this paper, it can be divided into two namely Islamic unit trust and conventional unit trust. However, the only clear difference is the avenue of the fund; where the funds are being invested. Some examples of unit trust company in Amanah Saham Bank Islam, Arab Malaysian Cumulative Growth Fund, BHLB Pacific Savings, Lifetime Trust Income, Amanah Saham Nasional and so forth. In this section, I am going to discuss one example of Islamic unit trust as well as the conventional one.

Firstly, Bank Islam Unit Trust Management Berhad (BUTM) introduced Amanah Saham Bank Islam – Islamic Bond Fund in 27 December 2001. This fund has a size of about 400 million units. This fund aimed to invest in a portfolio of ‘halal’ stock, which complies with the principles of shariah. The ‘halal’ stocks will exclude all the companies involved in activities, products or services related to conventional banking, insurance and financial services, gambling, alcoholic beverages and non-halal food products. While this fund also aimed to avoid the incidence of riba or usury interest. One of the ways is by direct deduction zakat in each of the proceeds. The Bank Islam’s shariah board advises the fund. The funds can be categorised as income type. Mainly, this type of funds aimed to achieve a reasonable return by investing in a moderate risk type of portfolio. Minimum investment for this fund is RM1 , 000.00 and the minimum additional deposit is RM 100.00. The service charge is 0% to 5% of the net asset value.

Next, Amanah Saham Nasional 3 was introduced in 16 October 2001. This fund was introduced by Amanah Saham Nasional Berhad, a wholly owned subsidiary of Permodalan Nasional Berhad (PNB). This fund policy is to invest in a prudent portfolio of equities and other capital market instruments which is in line with the objective to achieve a capital appreciation over the medium to long term time span. ASN 3 invested in a 70% of its asset to equities and the remaining in the other capital market instruments. The allocation may be reviewed based on market performance. This fund can be categorised as equity and other capital market instruments. In other word it is a balanced fund. The size of this fund is 1 billion units. In addition, this fund is suitable for investors who expect to gain growth of capital over the medium to long term period. The service charge for this fund is 5% to 10% of the net asset value

The difference between ASN 3 and ASBI – Islamic Bond Fund is restriction by the shariah board. Theoretically, the Islamic Fund of ASBI must comply with the shariah qualification as listed below:

UNIT TRUST INDUSTRY IN THE FUTURE

The prospects of Islamic Financial product, particularly unit trust is bright with further support and encouragement from the government. However, in order to become an international Islamic financial centre, several measures have to be implemented. For example, overcoming consensus among bankers and Islamic jurists, encourage proactive participation in research and development and education to general public.

Firstly, problems that occurs due to a different view between conventional and Islamic practitioners. For example in the case of unit trust, some of the company may neglect to deduct ‘zakat’ from their profit. In contrast, Islam suggests ‘zakat’ to be paid to the needy and poor. In conjunction to this, Syariah Advisory Council (SAC) has to be more proactive to tackle this deficiency. They should re address the matters related to the shariah principles and conduct proper discussions to overcome the issues pertaining in a proper manner. As a result, better co-ordination and consistency of shariah rulings will prevail in the future.

Next, research and development also plays a significant role in reshaping the future of the Islamic unit trust. Shariah expert and professionals should sit, discuss and develop a versatile Islamic financial product which suits present and future needs. On the other hand, from discussions held by both parties, knowledge gap also can be diminished over time and this directly reduces resistance and enhances coopearation in promoting any financial products.

Better education on the intricacies of Islamic principles financial product is very important to provide a better understanding of the underlying concepts of Islamic finance. Lately, there are some comments from the public, complaining about the calculation of profits between the Islamic product are almost the same as the conventional one. So, the Government should take more proactive role to overcome this. Seminars and information through mass media is viable to educate people about the concept of Islamic Finance.

As a conclusion, to become a hub of Islamic finance country, the Government and Private sectors has to give more effort to Islamic financial sub sector, particularly unit trust. As an implication to this, our vision to see a fully Islamic based country will become reality