0327 - Journal of Banking and Finance 7 (1983) 339-354....

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Journal of Banking and Finance 7 (1983) 339-354. North-Holland PORTFOLIO MANAGEMENT OF ISLAMIC BANKS 'Certainty Model' B.A. BASHIR* University of Lancaster, Lancaster LA1 4 YX, UK Received January 1982, final version received February 1983 The Islamic banking and finance system is recent in origin. Its special features preclude the application of modern finance theories. The system is briefly described in this paper as part of an initial attempt to develop a simple model for the portfolio management of an Islamic bank. The model is built on the assumption of certainty for one period. A numerical example based on actual data of Faisal Islamic Bank of Sudan is given to illustrate the model and reveal its relevance. 1. Introduction Currently in Arab and Muslim countries, a new banking system based on Islamic economic principles is rapidly developing. More than 28 banks exist at the time of writing and more are planned. 1 The importance of this new system stems not only from the growth (which is reflected in the growth of the number of accounts and the increasingly large sums of money being handled) but also arises from the serious consideration given to the system by the governments of the 'Islamic' oriented countries. The number of accounts of the Faisal Islamic Bank of Sudan, for instance, has exhibited an annual increase of about 200% in the number of its accounts between 1978- 1981, and the funds handled are increasing by over 100% p.a. Moreover, the Sudan government has recently ordered the specialized banks to change (from the Western banking system) to the Islamic banking system; other commercial banks are also seriously considering this change. Similarly, the government of Pakistan is considering changing its whole economy to the interest-less Islamic system. 2 Countries such as Egypt, Saudi Arabia, Bahrain, the Arab Emirates and others are highly supportive of the system and give many incentives to ensure its success. The developments have encouraged *The author wishes to gratefully acknowledge the help and valuable comments that Dr. C.W.R. Ward and Professor K.V. Peasnell (Dcptartment of Accounting and Finance, University of Lancaster, UK) and the anonymous referee(s) have contributed. He also wishes to express his appreciation and sincere gratitude to the management of Faisal Islamic Bank of Sudan for their help and support. 1Bashir (1982). 2Report of the Council of Islamic Ideology (1980).
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340 B.A. Bashir, Portfolio management of Islamic banks several studies and publications on the Islamic banking system. However, few authors have considered the status of the system within the existing world of modern finance, nor the application of modern finance theories to Islamic banks. Such studies are of vital importance especially as these banks are operating alongside the established Western banking system. The special features of Islamic economic principles preclude the application of the managerial techniques and models advanced in the conventional financial framework. It is the purpose of this paper to derive a
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0327 - Journal of Banking and Finance 7 (1983) 339-354....

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