Right now, most of the world’s 1.6 billion Muslims don’t invest in gold. That will likely change before the end of the year – opening up a big new source of gold demand.
(We show you more reasons to own gold in our latest special report, that you can download here.)
As we explained last month, gold’s status under Sharia law, which governs the lives of Muslims worldwide, is murky. Muslims can own physical gold. But there’s currently no “party line” among Islamic scholars outlining when, if ever, it’s acceptable to own gold as an investment. That’s about to change.
The Accounting and Auditing Organization for Islamic Financial Institutions (AAOIFI), which establishes Sharia standards for Islamic finance, and the World Gold Council (WGC), are currently drafting a “Shariah Standard on Gold.” Natalie Dempster, a managing director at the WGC, told me that they plan to release it by the fourth quarter of this year.
This new standard could clear the way for Islamic investors to participate in gold’s current rally. As the chart below shows, the price of gold is already up 28 percent this year. That includes a nearly five percent jump after the UK voted to leave the European Union on June 24. Holdings of gold-backed ETFs soared US$4.3 billion the day after the vote. That’s the highest daily increase in four years, according to Bloomberg.
Why many Muslims don’t own gold as an investment
For years, Islamic investors and financial institutions have shied away from gold-related financial products. You see, Sharia (also spelled Shariah) law considers gold a “Ribawi item.” That means Muslims can’t trade it for future value, or for speculation. They can, however, use gold as currency and own it as jewelry and the like.
The real disagreement turns on whether Muslims can trade gold as a commodity.
Yusuf DeLorenzo, an AAOIFI member, told me that “The hesitation about investing in gold when credible Shariah standards are unavailable is nearly universal in the Islamic world. On the reverse side of the equation, however, gold has historically been the choice of individual Muslims desirous of preserving wealth and value.”
The new standard, which will allow banks to issue Sharia-compliant gold products, should ease much of the confusion and hesitation. According to the WGC, it will serve as an internationally recognised consensus on regular gold savings plans (gold accumulation plans), gold certificates, physically-backed gold ETFs, certain gold futures and gold mining equities.
The potential Islamic gold market
Today, the world’s 100 million Islamic savers and investors hold almost US$2 trillion in assets. Standard and Poor’s projects that figure could reach US$5 trillion by 2020; another industry estimate forecasts that the number will be US$6.5 trillion by 2020. This represents a potentially huge new demand for gold and gold-based financial products.
A recent report by Ernst and Young stated that 93 percent of Islamic financial assets are held in nine core markets – Bahrain, Qatar, Indonesia, Saudi Arabia, Malaysia, United Arab Emirates, Turkey, Kuwait and Pakistan. Since there are virtually no Sharia-compliant gold products right now, money managers in these core markets are generally limited to investing in Sharia-compliant assets in equities, real estate, and Islamic bonds.
DeLorenzo said that he thinks the addition of gold-compliant products is a “huge opportunity” for institutional investors, “whether as collateral in infrastructure projects or in the form of any number of innovative gold-based investment products.”
He also says that large Muslim populations in countries with fluctuating currencies (such as Malaysia and Pakistan) present a unique opportunity for gold-based Sharia-compliant products. This is because gold is recognised as a store of value and a global currency, so its value may not fluctuate as much as their local currency.
DeLorenzo notes that the growing middle class in Muslim-majority countries means there are more financially sophisticated Muslims looking for Sharia-compliant options. It’s easy to envision one or several Sharia-compliant gold ETFs, fully backed by the commodity, becoming very actively traded in the not too distant future.
It makes sense that Islamic investors will embrace gold for the same reasons other investors do: the lack of low-risk alternatives in a zero interest rate world, stock market volatility, global economic concerns, diversification, and as a form of insurance. They may not all rush into buying it once the standards are accepted, but growing interest from Islamic investors should give gold prices long-term support.
As gold continues its current rally, this is another reason to be bullish on the metal: Muslims, who make up nearly a quarter of the world’s population, may start buying a lot more gold soon.