Risk is everywhere around us. To live is to encounter “risk” since we cannot know the future – even the next few minutes. Most people understand an uncertain future as “negative” and uncontrollable, yet others differ and so grasp that also there is “opportunity and promise” embedded in that risky future.
From a typical downside perspective, risk points to “the possibility of loss occurring” which involves the probability (or likelihood) and the impact (or severity). Depending upon that person’s risk tolerance (i.e. appetite to accept risk), there are four courses of action:
- avoid the occurrence of potential loss
- control the impact should the risk happen
- mitigate the risk by sharing using insurance coverage or
- reach out to seize risk as an opportunity and hope for gain.
This article focuses on the 3rd such option.
Fortunately, one need not take on these risks alone – risk sharing among members of a group or community is an age-old practice by early tribes in North Africa, Arabia, Greece, Babylon and elsewhere. It can be asserted that there are no striking differences between Islamic and non-Islamic human perspectives on risk. The sheer size and scope of modern day insurance globally is a testament that people everywhere seek methods of mitigating and hedging risks that impact their daily life.
Universally, Muslims are urged to depend wholeheartedly (“tawakkul”) upon God (“Allah-swt”) in all aspects of human endeavour yet guidance from Holy Quran and hadith make clear that each person possesses an instinct of self-preservation and a duty as well to take appropriate precautions — i.e. actions to manage the uncertainty and risks associated with their future. Some references to this point are:
“And put all your trust [in the God], if you truly are believers.” Quran Al Maidah V.5:2-3
“If you all depend on Allah with due reliance, He would certainly give you provision as He gives it to the birds who go forth hungry in the morning and return with full bellies at dusk.” Hadith ~Al-Tirmidhi by Umar bin Khattab (rah)
"One day Prophet Muhammad (pbuh) noticed a Bedouin leaving his camel without tying it and he asked the Bedouin, “Why don’t you tie down your camel?” The Bedouin answered, “I put my trust in Allah.” The Prophet then said, “Tie your camel first, then put your trust in Allah. " Hadith ~At Tirmidhi
“…let them pray with you taking all precautions and bearing arms…but there is no sin on you if you put away your arms because of the inconvenience of rain or because you are ill, but take every precaution for yourselves.” An-Nisa V. 4.102
Many types of risks can be shared (or transferred) using insurance, especially in those circumstances where the magnitude of the impact of the risk occurrence is outside the control of the individual or where the financial consequences to that person might become disastrous. Risk is the reason insurance exists. Without risk, there would be no need for insurance.
While it may be impossible to measure risk in exact terms, yet its impact on an individual(s) is usually quantified in monetary terms and traditionally is measured in terms of a sum of monetary loss
As individuals grow through life stages and mature, commonly they accumulate wealth in various forms:
- Savings-bank CDs accounts
- Private investment plans (and Takaful)
- Business ownership
- Jewellery, art, rare coins, collectibles
- Real estate and properties
- Inheritance
- Other—winnings, inventions, books, patents, etc,
which are all subject to uncertainty and a risk of loss or damage. This gives rise to a perceived need for preservation of capital and risk protection in the form of insurance, or for Muslims – Takaful, the Islamic alternative to conventional insurance. Actions taken to accumulate this wealth, in an Islamic context, must seek to avoid all haram or prohibited activities and also use only Shariah-sanctioned legal structures and agreements which adhere to profit-loss and risk-reward principles. Hence, guaranteed returns on investment are shunned. Because one strives consciously to accumulate wealth that is halal in all aspects, then one should seek likewise to protect assets and wealth in a like halal manner. The approved mechanism for risk protection consistent with Islamic values and Shariah guidance is called "Takaful.”
Wealth preservation using Takaful aims to:
- Safeguard wealth against financial risks and threats
- Protect assets and physical property against unpredictable occurrences and potential loss, and
- Safeguard personal health and energy against hardships from illness, prolonged sickness, injury or disability, or death.
For Muslims, the preferred tools for such risk protection is a two-sided Takaful relationship: i) the individual contributes to a pool of funds for collective risk sharing and mutual assistance to those members struck with misfortune, and ii) the same individual can benefit from charitable donations and assistance in the event s/he suffers a covered loss.
It is noteworthy that Takaful enables an individual to purify his/her wealth and assets (not unlike the Islamic values obtained in Zakat contributions) that are to be preserved by making the donation/contribution (tabbarru) to the collective Takaful risk pool. In one gesture, the individual promotes piety and self-sacrifice while also reinforcing collective sharing of burdens across the community, and thereby promotes solidarity and greater humaneness.
Takaful was first established in the second year of Hijrah (7th century) in the fledgling Islamic community of Medinah, Saudi Arabia. This approved system of collective risk protection was a combination of pre-Islamic tribal practices and principles set forth in the first Charter of Medinah[1]. Presumably, Takaful flourished for some 700+ years, then fell into disuse. Its revival in Sudan in 1979 means that Takaful mechanisms were dormant for some 665 years at least and its current practices are barely 32 years young. This is most certainly a young, aspiring industry.
From a sample of 163 Takaful players[2], one can observe that 70% have been in business less than seven years, while only 9% (14) are older than 16 years and 8% (13) have longevity beyond 26 years. Therefore, it is no wonder that today’s Muslim communities worldwide are neglectful, or even ignorant, of the virtues and practices of Takaful as the re-discovery process is just beginning to unfold worldwide. Many articles and books elsewhere eloquently describe Takaful, its models, types of investments, governance, etc.[3] so this will not be repeated herein. Rather, this article seeks to draw connections between Islamic wealth and risk management.
According to data from Alpen Capital/Sarasin, E&Y World Takaful Report 2012 and the author’s research, globally there are about 236 primary Takaful Operators and Retakafuls in 30 countries which conducted USD8.3 billion dollars in Takaful business (2010e). Some 68% of premiums were written in GCC region and 23% in the Asian region. The industry forecast is for annualised growth of 25% (vs. 5-6% for conventional insurance) through to 2015 to realise an estimated USD25 billion in gross written premiums globally. Life/Family Takaful represents 12% roughly of GCC region total premium business while nearly 50% in the Asian region. Life/Takaful density is expected to rise from USD51 dollars/per capita in the GCC region (2011) to USD114 dollars/per capita.
The Table above indicates that the regional savings rate in Middle East is high – almost 50% higher than the global average in 2009 – yet the apparent adoption of Takaful Family risk protection as a savings tool is well below the Asian standard and world average. This suggests an aversion to insurance mechanisms as respected savings instruments as well as a lack of public outreach and education by Islamic institutions on the relative virtues and benefits of Takaful.
Reports from Merrill Lynch/Cap Gemini, Booz & Co, Alpen/Sarasin regarding wealth financial assets classification and asset mix describe a clear preference by households and high-net-worth individuals (HNWI), since the global financial crisis originating in 2008, to have 30% to 40% in bankable assets (ie. liquid or tradable), 20% to upwards of 30% in real estate and properties, and the remainder in non-bankable assets such as jewellery, cars, art and collectibles. Bankable assets include equities, hedge funds, sukuks, money market funds and the like. These reportings do not specify if Takaful Savings plans and risk protection plans are included in bankable assets.
From the Table above, HNWI investors globally have shifted cash/deposits into Equities and Fixed Income bankable assets and securities over the past five years. To the extent that money/asset managers are insurance companies, then these investments should have pushed up growth in the insurance/Takaful industry. A question arises: could Takaful players have done better in capturing these investment flows because global Takaful premiums are less than 1/10 of 1% of global insurance premiums of USD4.3 trillion dollars[6] – a meager share indeed?
Challenges to Growth
Industry pundits have said that the barriers to growth in the Takaful sector include: lack of Shariah uniformity, poor record of innovation, weak public awareness and limited educational outreach, limited corporate governance and weak technical underwriting and risk management, slow embrace of financial ratings, etc. Although there are many challenges confronting Takaful companies and Islamic financial planning institutions yet, in general, four stand out for mention here.
Observation One: Demographics for emerging markets – especially for MENA and SE Asia regions – clearly show that the age breakdown of the populations are skewed towards population under the age of 31. The aging population of North America has only 10% under age 31, whereas Middle East has 21% and SE Asia (ex Japan) 41% as compared to the world’s average of 17%[7]. Therefore, Takaful operators and Islamic banks must cater to the youthful savers and those under age 31 as they amass their wealth and seek adequate levels and types of risk protections. Here the rate of innovation in products, features and delivery channels will be key to growing Takaful market share.
Observation Two: Limited scope of Islamically compliant investment instruments and securities that are underlying the savings/pension wealth-building plans must be addressed urgently. There is a doublewhammy here: individuals cannot be offered a proper spread of risks in types of Islamic investment tied to Takaful, nor in extended range of tenors to arrive at a prudent investment/asset mix in their portfolios. In addition, the Takaful and ReTakaful players have only limited securities to invest in, which compounds their troubles in matching institutional assets/liabilities as well as balancing their solvency risks, both are critical elements from a regulator’s vantage point. To wit, until this industry-wide issue is redressed, Takaful- ReTakaful players are likely to face competitive disadvantages and lower financial ratings versus conventional insurers due to gaps in such offerings.
Observation Three: As demonstrated above the demographic engine of young populations across the globe foretells potentially spectacular growth for Islamic financial services and Takaful risk protection plans. However, inexorably it seems that a pervasive culture of consumer spending and conspicuous consumption grips the youth today. Thus, the industry challenge is to promote financial literacy and, more generally, a positive habit of savings. By encouraging the millions of young people under age 31 to build up reservoirs of savings and other financial wealth assets, then the pathway lies open for deployment into instruments managed by insurers, Takaful players and Islamic banks provided that such wealth-building options are Shariah-compliant and easily understood by the intended clients.
Observation Four: Scarcity of talent remains a constraint on growth. Here the breadth of the challenge lies not only in skilled underwriters and risk managers knowledgeable about Takaful and Shariah issues, but also with training and deploying of sales people and customer service professionals (who must now be licensed or certified in many jurisdictions) insufficient numbers to explore and cultivate the local untapped segments of clients.
Despite a lingering global financial and economic crisis, prudent savers and savvy investors are finding ways to accumulate wealth consistent with Islamic Shariah rules. As private wealth builds up, concerns turn to preservation of capital and protection of assets, financial securities and real property. The companion to Islamicly generated wealth is Takaful – a method of mutual and collective risk sharing. Takaful is just as effective as conventional risk protection, however, Takaful also emphasises ethical business dealings, mutual assistance, self-sustaining operations and community values.
The proliferation in numbers of Takaful operators – now exceeding 230 globally – into more than 30 countries is a clear testament of rising native demand and a resurgence of Islamic faith. Nonetheless, if Takaful is to excel as a risk management tool, then Takaful players must drive product and distribution innovation, enhance transparency and corporate governance practices and broaden its appeal to youth and small savers (via micro-takaful) as well as devise longterm retirement, waqf and legacy plans for high net worth individuals.
Footnotes
[1] See author’s article: Primary Roots of Takaful, published Premium magazine, May 2012.
[2] Author’s research.
[3] For example see: “Alignment of Takaful and Corporate Governance”, author Dr. O. Fisher (2011) or What’s Takaful - A Guide to Islamic Insurance, BISC Group Lebanon 2010.
[4] Source is adapted from Alpen Capital Report GCC Insurance Sector, Aug 2011.
[5] CapGemini Merrill Lynch 2011 World Wealth Report, p.17.
[6] Note that roughly 45% of global premiums are Life products, or USD1.94 trillion.
[7] CapGemini ML, IBID p. 23.
This article was first published in Labuan IBFC's Q Report, Issue 1 (2013)
dr omar fisher
Dr Omar Fisher is the founder and manager of the first Islamic Leasing company (1992) in USA, the first Takaful company (1997) in USA, the first Family Takaful company (2000) in Saudi Arabia, and the first regional Takaful company (2007) launched with HQ in Bahrain. Currently, Dr Fisher is a Mentor at the Dubai Silicon Oasis Founders incubator in Dubai and Associate Professor at the HULT International Business School (Dubai) in Islamic Finance and Risk Management. Dr Fisher has authored or edited three books on Takaful - one as an eBook on Takaful basics to be released in Q1 2013. His numerous articles on Islamic finance, takaful, project finance and social enterprise networking have appeared in Premium and Middle East Insurance magazines, Euromoney books and similar respected publications. He may be contacted through www.khidr.ae.