October 24th, 2018
By Muzrifah Mohamed and Nurul Fatma Aziz@Awang
The 2007-2009 global financial crisis is believed to have affected the Islamic finance sector to a lesser extent relative to its conventional counterpart (Smolo & Mirakhor, 2010). Consequently, Islamic financing was propelled into the limelight as an alternative investment. However, Islamic financing is seen by some critics as a subset of, and hence potentially correlated with the conventional financial system (Ahmed, 2014). More specifically, the operations of Islamic Financial Institutions are governed by the same rules and regulations used to govern the conventional financial system, which may not be in line with the maqasid al-shariah. These critics suggest that copying conventional financing mechanism and applying the Shariah make-up is an inaccurate representation of the Islamic financial system, thus, abrogating the beauty of Islamic financing (Ahmed, 2014).
In Malaysia, Islamic finance sector has experienced a major transformation and growth since 2000 and is currently at an advanced stage of development (Ahmed, 2010). A major contributor to the development of the Islamic finance sector in this country is Shariah analysts who are actively involved in the development of Islamic Financial Institutions and Shariah-compliant organizations. Despite being a well-developed industry, Islamic finance in Malaysia still suffers from the universal issue of an inappropriate application of conventional financial mechanism masked with Islamic make-up. A similar concern exists for Shariah analysts in this country. As at to date, there is still a lack of specific guidelines on the qualifications, roles, and responsibilities of Shariah analysts.
Conventionally, the financial analysts are professionals who research the company fundamentals and forecast earnings and other key financial information of the company, which are often used by the investors as guidelines in making informed investment decisions. It is also common for the financial analysts to provide recommendations on how to chart the path ahead, such as to buy or sell the company’s stock. Similarly, one of the main roles of Shariah analysts is to provide investment guidance and advice that is in line with the investors’ goals. Additionally, Shariah analysts are also expected to provide advice that complies with the maqasid al-shariah values. To ensure the credibility of the services offered by Shariah analysts, it is critical that they are well versed in Shariah Law and other relevant Islamic knowledge. Accordingly, conventional financial analysts may not be qualified to provide the services rendered by their Shariah counterparts.
Unfortunately, the problem of a limited pool of Shariah analysts has forced the conventional analysts to provide Islamic-related investment advice including the status of Shariah-compliant companies without relevant qualification or prior validation from other relevant experts. Consequently, the legitimacy of the returns earned from investments in Shariah-compliant companies is questionable. While this phenomenon is illegitimate from the Islamic perspective, the fact that it is a widespread situation affecting most people and difficult to avoid (i.e., Umum-balwa) brings relief to most affected investors (Abdullah, 2005).
Since the conventional and Islamic financial analysts are dealing with uncertainty in evaluating a company’s intrinsic value, forecast error is logically inevitable and arguably random. However, findings of the prior research suggest the accuracy of the analysts’ forecasts are significantly associated with earnings performance. More specifically, the financial analysts’ forecasts tend to be more accurate when the companies report positive earnings. On the other hand, the financial analysts tend to produce more optimistic forecasts (evidenced by an overstatement of the company’s intrinsic value, and hence resulting in larger forecast errors) for companies reporting negative earnings (Ramnath, Rock & Shane, 2008).
While large forecast errors potentially have a negative impact on their professional reputation, the financial analysts may be incentivized to produce optimistic forecasts to generate higher income from trading commissions (Jackson, 2005). Another potential explanation for the overstatement of loss-making company’s value is the fear of losing the company’s management trust (McNichols & O’Brien, 1997). Both of these incentives of optimistic forecasts are not in line with the objective of Shariah as they are unethical and unfair to the investors. The Quran mentions clearly that any activities carried out by a company must prohibit the clamp of harm. For example, “…after the payment of all debt: so there will be no loss (harm) is caused (to anybody) (Quran, verses 4:12, 4:5, and 2:233).
Several key themes emerge from the above discussions. Firstly, there is still an apparent gap between the theoretical expectations and practical realities concerning Shariah analysts in Malaysia. The non-existence of a comprehensive framework for Shariah analysts seems to be the main contributing factor to this gap. Furthermore, the aspiration of becoming the world’s Islamic finance hub puts the Islamic Financial Institutions in Malaysia under a lot of pressure, which indirectly leads to a high expectation on the Shariah analysts. Secondly, despite the existence of an effective regulatory framework (Khan, Tanveer, Shah, & Jamil, 2015), the Islamic financial sector in Malaysia has not evolved to become one that is fully in line with maqasid al- Syariah values. These phenomena might potentially explain why the Islamic finance sector was also hit by the global financial crisis (though to a lesser extent compared to the conventional finance sector) in 2007-2009. Hence, it is critical that these issues are dealt with promptly and efficiently in order to facilitate the development of the Islamic finance sector in this country.
