Deck 10: Risk Management in Islamic Finance

Question 1

A number of the Islamic finance products are inherently prone to risks.

Answer 1

True

Question 2

The risk management measures being applied by Islamic Financial Institutions IFIs. are either Sharī'ah-based or contemporary conventional measures.

Answer 2

False

Question 3

While crafting its guidelines, IFSB excluded every technique or mechanism that originates from the conventional banking industry.

Answer 3

False

Question 4

Aleatory transactions are transaction completely anticipated by the parties engaging in contracts such as games of chance or throw of a die.

Question 5

The risks faced by the Islamic banking industry are the same as the normal risks of the banking industry.

Question 6

Unlike their conventional counterparts, Islamic banks are protected from business risks.

Question 7

The Islamic banks and financial institutions have utilized the conventional risk management techniques prior to the development of Sharī'ah-oriented framework for risk management.

Question 8

The criterion of legality of any return on capital investment is risk.

Question 9

There is no need for special guiding principles specifically designed to cater for the needs of institutions offering Islamic financial services since all issues are of equal importance to all financial institutions across the world.

Question 10

Despite the fact that excessive risk is prohibited in Islam, Islamic finance links profits with risks.

Question 11

Avoiding risk with zero profit in business activities is not allowed in Islam because this is equivalent to interest riba. from loans.

Question 12

In addition to the risks faced by conventional banks, Islamic banks also face risks associated with the compliance with the Sharī'ah in Islamic finance transactions.

Question 13

Risk is associated with uncertainty, speculation, and obscurity in business transactions.

Question 14

Combining risk and profit in Islamic commercial transactions might imply the mismanagement of funds.

Question 15

Both the Holy Qur'an and Noble Sunnah urge Muslims to effectively manage risks associated with their worldly activities.

Question 16

Islam holds an impartial attitude towards risk management as risk management is barely addressed in the Holy Qur'an and Sunnah.

Question 17

Generally, risk is limited to the business environment since business transactions are subject to generating profits and sustaining losses.

Question 18

Only debt-based transactions in Islam finance are associated with risk.

Question 19

The fiduciary duty Islamic financial institutions owe their customers requires them to exercise due diligence in the management of the investment funds.

Question 20

Avoiding risk with positive profit is allowed in Islam because such profit is not equivalent to interest riba. from loans.

Question 21

Equity investment in listed companies is considered to be of higher risk than for venture capital investment. .

Question 22

The fluctuations in foreign exchange rates lead to market risk.

Question 23

The relationship between the IIFS and Investment Account Holders IAH. is a fiduciary relationship.

Question 24

The new IFSB guiding principles were meant to replace the existing framework of Basel Committee on Banking Supervision BCBS. guidelines used in all the banks and financial institutions across the world.

Question 25

According to IFSB-1, market risk is defined as the risk of losses in on-balance sheet positions arising from movements in market prices.

Question 26

Once Islamic banks and financial institutions decide to lend or extend financing facilities, then they would have exposure to credit risk.

Question 27

The due diligence process must follow the granting of any type of financing for the counterparties.

Question 28

Restricted investment accounts are account portfolios where the account holders fully authorize the Islamic bank to invest their funds in profitable business ventures.

Question 29

The adaptation of industry standards from whatever model that are not contrary to the Sharī'ah remains the driving force that makes Islamic finance Sharī'ah-compliant and at the same time conventionally competitive.

Question 30

One of the IFSB guiding principles for the management of credit risk for Islamic banks and financial institutions stipulates that the "IIFS shall have in place a general Sharī'ah-compliant credit risk mitigating technique appropriate for all Islamic financing instruments".

Question 31

The creditworthiness of the counterparties as well as the Sharī'ah compliance of newly proposed business projects should be properly reviewed and established once the credit has been approved to respective party.

Question 32

While crafting its guidelines, IFSB considered every technique or mechanism that originates from the conventional banking industry to be non-Sharī'ah compliant.

Question 33

Each Islamic financial instrument must have its unique Sharī'ah-compliant credit risk mitigating technique.

Question 34

Failure to repay the debt within the time stipulated in the contract and in line with the terms of the contract constitutes a liquidity risk for the bank.

Question 35

IFSB guiding principles on equity investment risk require the IIFS to define and establish the exit strategies in respect of their equity investment activities, subject to the approval of the institution's Sharī'ah board.

Question 36

The risk exposure in Ijārah contracts is more than in ijārah muntahia bittamlik.

Question 37

Equity investment in unlisted companies refers to the acquisition of equity or ownership. participation in a joint venture company or a start-up.

Question 38

Counterparties are retailers/consumers, corporate, or sovereign clients of the bank who obtain credit facilities based on agreed terms and conditions.

Question 39

Due diligence review includes the ascertainment of the eligible counterparties of the IIFS through a comprehensive assessment of their individual risk profiles.

Question 40

The potential default of a bank's customer to meet his or her obligations on agreed terms constitute a credit risk for a bank.

Question 41

An Investment Risk Reserve IRR. is the amount appropriated from income to the IAH before the share of the investment manager Muḍārib. is allocated.

Question 42

Rate of return risk management entails that necessary steps must be taken to mitigate any mismatch between the assets and balances from the funds of the investors.

Question 43

The IIFS are discouraged from using balance sheet techniques to minimize exposure to risks.

Question 44

It is strategic for the IIFS to retain their fund providers to avoid insolvency and an ultimate liquidation.

Question 45

Operational risk includes risk arising from non-compliance with the Sharī'ah requirements.

Question 46

Foreign exchange rate risk is the risk arising from the changes experienced in the currency exchange rates.

Question 47

Operational risk can be defined as a risk that arises from the execution of the business functions of an Islamic bank.

Question 48

As investors, the IAH share the profits as well as the risk of the business of IIFS.

Question 49

Although Board of Directors BOD. plays a vital role in a corporate entity, its role is very limited especially when it comes to the challenges of liquidity risk.

Question 50

The risk management techniques or systems for Islamic banks and financial institutions are meant to mitigate, transfer, avoid, or absorb the risk in particular business undertaking.

Question 51

The current account holders do not share in the profit but do bear the risk of the business activities of the IIFS.

Question 52

The IIFS are under no obligation to maintain adequate liquidity at all times to meet all their obligations.

Question 53

Liquidity risk involves a kind of systemic failure on the part of the financial institution where it fails to meet expected and unexpected cash flow needs as they emerge from time to time.

Question 54

Any measure undertaken to reduce the effect of any form of risk will be regarded as risk management or risk mitigation techniques.

Question 55

The current account holders do not participate in the sharing of profits realized in investment activities.

Question 56

It is unlikely that operational risk leads to withdrawal of funds by the fund providers and ultimate closure of accounts costing Islamic banks substantial losses in tangible and intangible terms.

Question 57

Rate of return risk is defined as the risk associated with the overall balance sheet exposures where there is a mismatch between the assets and balances from fund providers.

Question 58

In a lease arrangement, when there is a default of payment on the part of the lessee, the resultant effect is that the bank/lessor faces systematic risk, which in turn may lead to credit risk.

Question 59

Just like the current account holders, the IAH have a share in the profits of the business of IIFS as investors.

Question 60

IFSB-1 does not differentiate between the rate of return risk and the interest rate risk since both risks cannot be exactly pre-determined.

Question 61

Risk-adjusted return on capital RAROC., and gap analysis are standard Sharī'ah-compliant techniques used for risk identification and management for Islamic banks and financial institutions.

Question 62

In futures contracts, the exchanged asset is defined with a known standardized quantity and quality at a price agreed upon by the parties on the spot while delivery is made at a specified future date.

Question 63

If you buy futures, you are practically agreeing to buy a commodity, which the seller has not produced at a fixed price.

Question 64

Bai al-tawrid is the deposit or earnest money that the buyer gives the seller, on the understanding that it will be part of the buying price once the sale is finalized. In the event that the sale falls through the seller keeps this initial amount.

Question 65

In a call option, once the buyer decides to buy the underlying asset through the exercise of the right, the seller is obligated to sell it at the agreed price and within the specified period of time.

Question 66

Experts in the Islamic financial industry are yet to develop alternative derivative instruments that are Sharī'ah-compliant.

Question 67

Derivatives are generally used for speculative purposes within the secondary market.

Question 68

In Islamic finance, "entitlement to return is related to the liability of risk".

Question 69

Gap analysis is also called need-gap analysis, needs analysis, and needs assessment.

Question 70

The price in a futures contract may be known as futures price or the lock-in price.

Question 71

Derivatives are contracts that can be structured in a way to serve as underlying assets.

Question 72

Forward contract is a non-standardized contract between counterparties, where the parties agree that the delivery price of the underlying asset would be determined at the time of delivery at a specified future date.

Question 73

Risks that cannot be eliminated nor transferred in the business of an Islamic bank must be ignored by the financial institution.

Question 74

Contractual hedging involves contractual financial instruments which are, in most cases, not-for-profit instruments.

Question 75

Gap analysis is a tool that helps companies to compare actual performance with potential performance.

Question 76

It is possible for a farmer to enter into a forward contract with a bank where he /she locks-in a price for his/her grains for the upcoming season.

Question 77

Risk-adjusted return on capital RAROC. is meant to give decision-makers the ability to compare the returns from different projects with varying risk levels.

Question 78

Portfolio managers, investors and corporations utilize hedging to increase the potential of rate of return on their investments.

Question 79

Option is a contract sold by one party option holder. to another party option writer..

Question 80

The concept of hedging is better understood through the comparison with the notion of insurance; literally, hedging is like insuring oneself against loss.