The Islamic banking market in the GCC is growing, as governments promote the use of sharia-compliant finance and economic conditions continue to improve.

The combined asset value of the GCC’s 20 largest Islamic banks stood at $514.8bn at the end of the second quarter of 2014, according to data from the US’ S&P Capital IQ. This marks a 8.9 per cent increase from the end of 2013, when assets stood at $472.8bn. This rate of growth compares with an 11 per cent rise in asset value seen between 2012 and 2013.

“Islamic banks continue to grow,” says Timucin Engin, Dubai-based director of financial services ratings at Standard & Poor’s. He adds that Islamic institutions in the GCC will continue to outpace their conventional counterparts in terms of credit growth as well. “Credit growth for the whole of the GCC’s banking sector is forecast to be about 10 per cent a year for the next two years, and the Islamic proportion of that will grow much faster,” he says.

Yet alongside that forecast growth, there will be increased competition, as governments promote the use of Islamic finance and sharia-compliant lenders attempt to carve out a greater market share.

Saudi dominance

Saudi banks remain the dominant players in the GCC Islamic banking market, with National Commercial Bank and Al-Rajhi Banking & Investment Corporation leading the table of the 20 largest banks. The two lenders had assets of $116bn and $79bn respectively at the end of June.

Mid-sized lenders Alinma Bank, Bank Aljazira and Bank Albilad also retained their places in the top 20. Saudi banks in total accounted for $242bn-worth, or 47 per cent, of the combined assets of the 20 biggest lenders as of the end of the second quarter.

The UAE’s sharia-compliant banks have also been performing well and have emerged strongly from the banking crisis of 2008-09. “Credit growth was quite high this year, especially in Dubai,” says Engin. “There was some deterioration post-2008, but in the past one and a half years, there has been visible improvement. The banks have deleveraged and are now in a growth phase.”

UAE growth

At the end of the second quarter, the combined assets of the UAE’s largest Islamic banks stood at $91bn, representing nearly 18 per cent of the total assets of the top 20 banks. They have posted healthy profit increases in the first half of this year. Abu Dhabi Islamic Bank (ADIB) saw profits rise by 21.5 per cent to reach AED864.3m ($235.3m), compared with AED711.4m in the same period last year. Net revenues increased by 15.3 per cent.

The bank is also gaining market share, having won approval from the UAE central bank in the second quarter to acquire the local retail business of UK lender Barclays. It increased the number of active customers served by the bank by 15 per cent year-on-year by the end of June.

Dubai Islamic Bank (DIB), which considers itself the world’s first Islamic bank, having been established in 1975, saw even stronger growth. Its first-half net profits totalled AED1.34bn, rising 81 per cent compared with AED739m in the same period in 2013. The bank puts its positive performance down to increased appetite for credit, with its financing book jumping by 18 per cent compared with the end of 2013. DIB is also expanding internationally, increasing its stake in the listed Indonesian Islamic lender PT Bank Panin Syariah. The lender is also due to start operations in Kenya by the end of the year.

The government is supporting the growth of Islamic banking in Dubai. Last year, Sheikh Mohammed bin Rashid al-Maktoum, ruler of Dubai, set out the emirate’s ambitions to become the ‘capital of the Islamic economy’, in which sharia banking will be a central cog.

Bahrain consolidation

Bahrain has been the historic centre for Islamic finance in the GCC and, to a certain extent, has retained this reputation, despite Dubai nipping at its heels. Earlier this month, the country was named the leading GCC Islamic finance market and second out of 92 countries worldwide by the ICD-Thomson Reuters Islamic Finance Development Indicator.

Bahrain was praised for its regulatory framework and its work with other countries and entities looking to develop Islamic finance. Earlier this year, the country signed a deal with the UK to help it advance its sharia-compliant banking industry, including plans for a debut sovereign sukuk (Islamic bond), which was issued in June.

Yet there are only two Bahraini banks – Al-Baraka Banking Group and Ithmaar Bank – that feature among the 20 largest GCC Islamic banks by asset size. This is largely due to the country having the biggest concentration of Islamic finance institutions in the world, including 32 Islamic banks and insurance or reinsurance firms known as takaful and retakaful.

More mergers

There are moves to consolidate the sector to form larger and potentially more profitable entities. In October 2013, the sharia-compliant Al-Salam Bank merged with BMI Bank, which is affiliated with Oman’s Bank Muscat. Last December, Bahraini firms Capivest, Elaf Bank and Capital Management House merged to form Ibdar Bank.

More mergers are likely to take place before the end of the year, Bahrain’s central bank governor, Rasheed al-Maraj, said on the sidelines of a conference earlier in 2014.

Although consolidation in the Islamic banking sector is increasingly evident in Bahrain, Engin does not see the trend spreading across the GCC. “All other lenders in the region are able to underwrite loans and capture market share from conventional banks – I think Bahrain really is the only place where this consolidation will take place,” he says.

Qatar’s Islamic banking sector is relatively strong, represented by four banks in the top 20, with combined assets of $64.6bn. However, 2013 did see a slowdown in lending among both Islamic and conventional banks, due to delays on key projects. But this is not expected to last. “Qatari Islamic banks were the fastest-growing for a few years, but there was a bit of a slowdown in the past few quarters in terms of infrastructure spending,” says Engin. “But we expect growth to rise again and Qatar will remain a key market to watch out for.”

Qatar’s sharia-compliant banks continue to be highly profitable, however, with Qatar Islamic Bank posting profit of QR772.8m ($212.3m) for the first half of 2014, representing a 25 per cent increase compared with the same period in 2013.

Government push

Qatar’s government has also made coherent efforts to support the growth of its Islamic banks. It is widely encouraged that any financing raised to support infrastructure projects include a tranche of sharia-compliant funding. In 2011, Doha also banned conventional banks from having Islamic finance windows, meaning Islamic banks only compete against other Islamic lenders.

Oman is a newcomer to the Islamic banking world, with the sultanate only allowing local lenders to offer sharia-compliant finance from the end of 2012. Muscat has granted licences to two pure, standalone Islamic banks: Bank Nizwa and Alizz Islamic Bank. Some conventional lenders have licences to set up Islamic finance windows, including National Bank of Oman.

“There is clear demand in Oman for Islamic financing,” says Mohammed Mahfoodh al-Ardhi, chairman of National Bank of Oman. “[We were] was the first to establish an Islamic finance window. Competition is big and we have two Islamic banks, but most commercial lenders have windows.”

This competition could, however, prove problematic for some Omani banks. “It is hard for these smaller, pure lenders to compete against the larger ones, so it does not put them in an advantageous position,” says Engin.

But the enthusiasm for Islamic finance across the GCC is unlikely to wane any time soon, as governments continue to directly and indirectly support sharia-compliant banks’ efforts to win greater market share from their conventional counterparts.