Capital structure of Islamic banks: How different are they from conventional banks?

This paper uses comprehensive data for 112 Islamic and 709 conventional banks from 23 countries over 1995–2015 to compare the capital structure of Islamic banks (IBs) and conventional banks (CBs) from several perspectives. We find that IBs and CBs seem to face different cost pressures in the process of adjusting towards the target capital structure. Asset growth is a key driver of capital structure change, and CBs adjust leverage more aggressively in response to changes in total assets compared to IBs, because they have an advantage in obtaining external funds and can achieve leverage adjustments faster and at a low cost. IBs have more regulatory capital, but their ability to respond to risks is weaker than traditional banks. The results of this paper suggest that Islamic banks are in a disadvantaged position compared to CBs in capital structure management. The conclusion suggests that IBs need to expand its financing tools and funding sources to reduce adjustment costs and improve their capability to deal with asset risk.     

Sukuk market development and Islamic banks’ capital ratios

This paper investigates the impact of Sukuk market development on Islamic banks’ capital ratios using a sample comprising 230 Islamic banks spanning the period 2005–2014. We characterize Islamic bank capital along multiple dimensions, namely: capital adequacy ratio, Tier 1 capital ratio, and capital-to-total assets ratio. We employ both the Prais-Winston technique and the system GMM estimator to tackle potential omitted variable bias, endogeneity, and simultaneity issues. The evidence shows that Sukuk market development has had a negative effect on capital ratios of Islamic banks. We argue that the development of Sukuk markets may have stimulated the competition between Islamic Banks, inducing them to hold lower capital ratios. Our results also show that trade openness and bank liquidity are positively and significantly related to capital ratios, while bank size and loan loss reserve ratio are negatively and significantly related to capital ratios, as expected.     

Risk-adjusted profitability and stability of Islamic and conventional banks: Does revenue diversification matter?

Revenue diversification in banking offers opportunities and threats. Recent academic research shows that disadvantages may outweigh advantages, in terms of both volatility of profitability and bank riskiness. Literature on this topic in emerging countries and in the field of Islamic finance is limited: our aim is to empirically test if revenue diversity affects Islamic banks differently than conventional institutions. We analyze the impact of income diversification on profitability and firm-risk of banks in selected OIC countries, in the period 2007–2016, using a comprehensive dataset of 47 Islamic and 154 conventional banks, through diverse measures and econometric approaches. We find that diversification provides lower rewards for Islamic banks than conventional banks, with effects that are stronger for accounting-based measures rather than market-based metrics. Shares of non-interest income positively contribute to profitability regardless of the business model, whereas income diversification shows a not significant effect on the risk-adjusted profitability of Islamic banks. Moreover, we do not find any relationship between income diversification and stability for both conventional and Islamic banks.     

Bank-level stability factors and consumer confidence – A comparative study of Islamic and conventional banks’ product mix

This study examines the behaviour of key bank-level stability factors of liquidity, capital, risk-taking and consumer confidence in Islamic and conventional banks that operate in the same market. Using fixed effect for a sample of 194 banks of Gulf Cooperation Countries between 2000 and 2007, we found that liquidity is not determined by the bank's product mix but rather attributed to systematic factors. However, non-performing assets (representing loans to sub-prime borrowers) have a positive and significant relationship with liquidity, implying that during the crisis Islamic banks tend to take stringent risk strategies compared to conventional banks. Furthermore, Islamic banks generally tend to provide higher consumer confidence levels as they were more capitalized than conventional banks, although conventional banks had carried higher averages of liquidity compared to Islamic banks. Consumer confidence levels or depositors’ discipline as proxied by deposits and customer funding over liabilities generally appear to be higher in Islamic banks than conventional banks.     

Are foreign banks more profitable than domestic banks? Home- and host-country effects of banking market structure, governance, and supervision

Using both bank- and country-level data on banking sectors from 70 countries over the period 1992-2006, this paper empirically investigates the joint home- and host-country effects of banking market structure, macroeconomic condition, governance, and changes in bank supervision on foreign bank margins. We find that foreign banks are more profitable than domestic banks when they operate in a host country whose banking sector is less competitive and when the parent bank in the home country is highly profitable. Moreover, when foreign banks operate in a host country with lower growth rates of GDP, higher interest and inflation rates, and more stringent regulatory compliance with Basel risk weights, their margins increase. Specifically, changes in bank supervision of a parent bank’s ownership restrictiveness in the home country significantly increases foreign bank margins, while supervisory changes in regulatory compliance with Basel risk weights in the host country enhances foreign bank margins.     

What influences banks’ choice of credit risk management practices? Theory and evidence

Banks use different risk management practices with varying levels of sophistication. This paper examines the factors that determine the choice of risk-management practices. In a theoretical model, we identify two main determinants for the choice of risk management tools: bank competition and sector concentration in the loan market. We empirically test the predictions of our model using hand-collected data on the credit risk management of 249 German savings banks. The results are in line with our theory: Competition pushes banks to implement advanced risk management practices. Sector concentration in the loan market promotes credit portfolio modeling, but it inhibits credit risk transfer.     

“How using derivative instruments and purposes affects performance of Islamic banks? Evidence from CAMELS approach”

The increase of the use of derivative instruments by Islamic banks for different purposes motivate us to conduct this study. This work has twice objective: firstly, to investigate the effect of each derivative instrument (forwards, futures, swaps or options) on the performance of Islamic banks, and secondly to examine the effect of each derivative purpose (hedging or trading) on the performance of Islamic banks.To reach this end, dynamic panel data econometrics with GMM system are conducted on 32 Islamic banks during the period from 2007 to 2017. The CAMELS approach is used to measure the performance of sample banks.Statistics on sample banks reveal that Islamic banks are substantial users of derivatives, prefer using derivatives for trading purpose than for hedging purpose, and have acceptable level of performance.The main results confirm that using options affects positively and moderately the performance of sample banks. In the same way, we find that swaps have positive and weak impact on the performance of sample banks. However, the results reveal that using forwards decrease the performance of sample banks. Finally, we find that futures have ambiguous and marginal effect on the performance of sample banks.As regards derivative purposes, results do not see which purpose mainly motivate the Islamic banks to invest in the derivatives market.As theoretical implication, we suggest for further studies to explore more the differences between using derivatives by Islamic banks for trading and hedging purpose.Finally, as practical implications, we recommend for managers of Islamic banks to enlarge their use of options and swaps, to supervise their use of forwards and to stop their use of futures.     

The ‘competition–stability/fragility’ nexus: A comparative analysis of Islamic and conventional banks

The ‘competition–stability/fragility’ nexus is one of the more debated issues in the banking literature. However, while there is ample evidence concerning the relationship between competition and stability/fragility in different countries and regions, no prior study investigates this in the context of Islamic and conventional banks. We do this using data on both types of banks drawn from 16 developing economies over the period 2000–12. We measure the lack of competition using the Lerner index, and stability using both accounting-based measures, comprising the Z-score and the nonperforming loan ratio, and market-based measures, including Merton's distance to default. We employ panel vector autoregression and two-stage quantile regression to estimate the relationship. Our results lend support to the competition–fragility hypothesis in both Islamic and conventional banks. We also find the magnitude of the market power effect on stability is greater for conventional banks than Islamic banks. Lastly, banks in the median quantile of stability have a greater ability to reduce credit risk through gaining market power than banks in the lower and upper quantiles.     

Income diversification and risk: Does ownership matter? An empirical examination of Indian banks

We examine the impact of ownership on income diversification and risk for Indian banks over the period 2001–2009. We investigate both the determinants of non-interest income and the impact of diversification on various profitability and insolvency risk measures for public sector, private domestic, and foreign banks. We document that ownership does matter in the pursuit of non-interest income. Relative to private domestic banks, public sector banks earn significantly less fee-income, while foreign banks report higher fee income. Public sector banks with higher levels of governmental ownership are significantly less likely to pursue non-interest income sources. Fee-based income significantly reduces risk, measured by profitability variables, for public sector banks. Default risk is also reduced for these banks. From a regulatory perspective, it appears that diversification benefits India’s public sector banks. Our research has implications for the changes in the risk profile for banks in emerging banking markets pursuing non-interest revenue sources.     

Idiosyncratic consumption risk and predictability of the carry trade premium: Euro-Area evidence

The failure to empirically prove uncovered interest rate parity conditions seems to be related to the presence of risk premia on foreign currencies. Recent studies suggest that either consumption- or currency-return-based pricing factors explain the cross section of foreign currency portfolio returns. The contribution of this paper is twofold. It first shows that the return-based explanation applies to foreign currency portfolios built from the perspective of a Euro-Area investor. Second, the main results of this paper suggest that the decisive pricing factor, the so-called carry trade premium, mirrors business-cycle-related risks. Times of relatively large uninsured Euro-Area consumption growth risk are associated with an expected increase of the carry trade premium.     

The link between the share of banks’ Level 3 assets and their default risk and default costs

Review of Quantitative Finance and Accounting - We empirically explore the risk relevance of Level 3 fair value estimates. Thereby we focus on banks’ default risk as well as banks’...     

On the role of Islamic and conventional banks in the monetary policy transmission in Malaysia: Do size and liquidity matter?

This paper empirically investigates the impact of monetary policy on the credit supply of Islamic versus conventional banks of Malaysia using an unbalanced panel dataset over the period 2005-2016. While estimating the effects of three alternative measures of monetary policy on banks' credit supply, we include several bank-specific and macroeconomic variables in the specification as control variables. We provide strong evidence on the existence of the credit channel of monetary policy transmission mechanism in Malaysia. Yet, we show that Islamic banks respond considerably less to changes in monetary policy instruments as compared to their conventional counterparts. We also find that the monetary policy measures affect small-sized banks and less-liquid banks more as compared to large-sized and more-liquid banks. Our findings suggest that for an effective monetary policy, there is a vital need to consider the nature of Islamic banking while devising any monetary policy instruments to manage credit supply in the economy.     

Accounting and capital market measures of risk: Evidence from Asian banks during 1998–2003

This study examines the relation between accounting and capital market risk measures for a sample of 46 listed Asian banks during the period 1998–2003. By applying a panel data analysis that includes a control for country-specific factors, the results show that the standard deviation of the return-on-assets and loan-loss-reserves-to-gross-loans are significantly related to total risk. Also gross-loans-to-total-assets and loan-loss-reserves-to-gross-loans are significantly related to non-systematic risk. These results indicate that in these Asian countries, firm-specific risk is more important than systematic risk and the results are robust even though significant differences exist across Asian countries in banking activities, capital adequacy requirements, and deposit insurance protection.     

Deriving value or risk? Determinants and the impact of emerging market banks’ derivative usage

This paper examines the determinants of the emerging market banks’ derivative usage and the impact of derivative usage on bank value, total risk and bank stability. Our empirical evidence first suggests that derivative usage is driven primarily by net interest margin, bank concentration and institutional strength. In addition, although derivative usage appears to reduce emerging market bank value, it does not affect total risk. Moreover, emerging market banks can reduce bank instability using derivatives. Our findings have important implications for investors and policy makers focusing on emerging derivatives markets.     

What is the systemic risk exposure of financial institutions?

I compare the performance of three measures of institution-level systemic risk exposure — Exposure CoVaR (Adrian and Brunnermeier, 2016), systemic expected shortfall (Acharya et al., 2016), and Granger causality (Billio et al., 2012). I modify Exposure CoVaR to allow for forecasting, and estimate the ability of each measure to forecast the performance of financial institutions during systemic crisis periods in 1998 (LTCM) and 2008 (Lehman Brothers). I find that Exposure CoVaR forecasts the within-crisis performance of financial institutions, and provides useful forecasts of future systemic risk exposures. Systemic expected shortfall and Granger causality do not forecast the performance of financial institutions reliably during crises. I also find, using cross-sectional regressions, that foreign equity exposure and securitization income determine systemic risk exposure during the 1998 and 2008 crises, respectively; financial institution size determines systemic risk exposure during both crisis periods; and executive compensation does not determine systemic risk exposure.     

On the exposure of insurance companies to sovereign risk—Portfolio investments and market forces

A sovereign debt crisis can have significant knock-on effects in the financial markets and put financial stability at risk. This paper focuses on the transmission of sovereign risk to insurance companies as some of the largest institutional investors in the sovereign bond market. We use a firm level panel dataset that covers large insurance companies, banks and non-financial firms from nine countries over the time period from 1 January 2008–1 May 2013. We find significant and robust transmission effects from sovereign risk to domestic insurers. The impact on insurers is not significantly different from that on banks but larger than for non-financial firms. We find that systemically important insurers are more closely linked to the domestic sovereign. Based on European data, we show that risks in sovereign bond portfolios are an important driver of insurer risk, which is not reflected in current insurance regulation (incl. Solvency II in Europe).     

The capital structure of multinational companies under tax competition

This article studies the relation between debt policies of multinational companies (MNCs) and governments’ tax strategies. In the first part, we show that the ability to shift income from high- to low-tax countries affects MNCs’ financial choices. In the second part we show how MNCs’ financial decisions can affect the tax strategies of two governments competing to attract income.      

Do the business cycle and revenue diversification matter for banks’ capital buffer and credit risk: Evidence from ASEAN banks

We examine the association of the business cycle and revenue diversification with the banks’ capital buffer and credit risk for a sample of banks from the Association of Southeast Asian Nations (ASEAN) region from 1998 to 2018, using 2847 banking firm–year observations. We find that ASEAN region banks react anticyclically in adjusting their capital buffer levels and credit risk. We find revenue diversification benefits and that banks, through revenue diversification, can reduce their credit risk while achieving capital savings when confronting economic downturns. Our results offer support for the Basel III accord. However, the relations revealed are somewhat moderated by the regulatory quality, competition, and phase of the business cycle encountered by ASEAN region banks.     

Corporate governance and liquidity creation nexus in Islamic banks—Is managerial ability a channel?

We examine the effect of dual board governance mechanisms (Shariah supervisory board and regular board of directors) on Islamic banks' liquidity creation. We also investigate whether managerial ability is a channel through which such governance mechanisms influence liquidity creation. Using data for 110 Islamic and conventional banks from 11 countries for the period of 2005–2015, we find that better Shariah supervisory board (SSB) governance increases on-balance sheet liquidity creation but decreases off-balance sheet liquidity creation. This result is robust to an analysis of subsamples, to individual governance attributes, to interactions of dual governance mechanisms, and when controlling for endogeneity issues. Our results reveal that both SSBs and regular boards of directors affect liquidity creation by enhancing managerial ability.     

The determinants of financial structure: How to explain the “paradox of insolvency and debt” among SMEs in Cameroon?

The paradox of insolvent enterprises regularly contracting new debts is the motivation behind this research. Statistical tests carried out on a sample of 62 manufacturing firms show that the financial behaviour of these enterprises is mainly explained by two factors: the rate of asset immobilization and the manager's social capital. The impact of the first factor is due to the asset capacity to serve guarantees, and the impact of the second is inherent to the possibility that enables relational networks to get around norms or to reach informal circuits and alternative sources of financing. The latter aspect is the beginning of the answer to the insolvency and indebtedness paradox. This result denotes the coexistence of two parallel dimensions in the Cameroon business environment. Besides the formal sphere, where the lack of confidence and readability between the actors pushes financial backers to excesses of prudence, subsists an informal universe where confidence, loyalty and solidarity seem to cement business relationships. However, the economic rationality of actors in these networks remains problematic.