Mid-East fundraising aided by Shariah structures

Three factors have conspired to make the Middle East a more important fundraising destination for GPs.

The first is a decrease in the capital available from US and European institutions, which are still reeling from the credit crunch. The second is an increase in the appetite of Middle Eastern LPs, especially for Middle Eastern and Asian private equity exposure.

At the same time, the economic downturn has bolstered the legitimacy of Shariah compliant sources of funding, at least in the eyes of Middle Eastern market participants.

There has been a steady trend towards tapping these sources over the past three or four years. During this period a disproportionate part of the (admittedly scant) deal and fundraising activity seen in the region since the crisis hit has been Shariah-compliant: “a large percentage”, says one Dubai-based lawyer.

Whether that is because Shariah-rules investors have seen themselves less impacted by financial woes than their conventional peers is unclear. However, Shariah finance has been winning more converts, perhaps not only for ideological reasons, but because its strict rules on the use of debt makes it seem a less risky investment prospect in these debt-shy times.

While there has not been a wholesale switch on the part of GPs (there won't be), some are taking up the baton. HBG Holdings is currently in the market with its first Shariah-compliant fund, HBG Special Opportunities 1, which is targeting $150 million for investment in MENASA-based AIM-listed companies. The decision to follow Islamic rules for this fund was, said HBG group managing director Zulfi Hydari, directly in response to investor feedback.

And there are signs that those Asian GPs now looking towards the Middle East as a crucial fundraising stop are also investigating the Shariah route. One Mumbai-based GP just back from a fundraising trip to the Middle East said a Kuwaiti institution urged him to seriously consider a Shariah sidecar to his existing India-focused fund – something that he is now looking into.

Of course, adoption of an Islamic fund structure brings with it limitations on the investment side. However, for Asian economies like India where growth – not leverage – is the main generator of returns, that should not prove too much of a constraint.