Islamic banks failing to adapt to crisis

Islamic banks in the Gulf Arab region need to adopt a new business model and take on more customers to weather the economic downturn, Ernst and Young's head of Islamic finance said on Thursday.

Islamic banks, many of which are investment houses, have been heavily exposed to the real estate market, which saw prices start to plummet at the end of last year.

They channeled the wealth accumulated during the six year oil boom that ended in mid-2008 into regional real estate through private equity and asset management.

"They relied heavily on selling investments and placements and that business model is being questioned," Sameer Abdi, who is also a partner at Ernst and Young, told news agency Reuters.

The global liquidity constraints will force Islamic banks to look for new customers and sources of funding, including moving into corporate banking, trade finance and retail banking, Abdi said.

Islamic banks cater to investors who do not want to earn or pay interest, viewed as usury under Islamic law.

Some banks have already started to set up funds that enable retail customers to buy sukuk, or Islamic bonds, which in the past were mostly bought by regional banks and large Western financial institutions.

MORE CRISIS AHEAD

However, analysts have said that it will not be easy for Islamic banks to reduce their heavy exposure to real estate, as they are too small to move into such areas as regional infrastructure and energy projects, which require large investments.

Islamic and conventional banks in the region still have more of the financial crisis ahead of them, Abdi said. "The financial industry is not out of the woods in the Middle East at all, in fact we are still in the middle of our crisis," he said.

"It's going to take some support from regulators and governments to actually come out of the crisis, and that may be six to nine months away, at least."

The restructuring of the debts held by troubled Saudi family groups Saad and Algosaibi could heavily impact many banks in the region.

The United Arab Emirates alone face at least $3 billion in potential losses from their exposure to the two groups, UAE daily Emirates Business reported on Thursday. Abdi also said corporate defaults of private sector companies in the region were very likely over the next six months.