Activity diversification and performance of Islamic banks in Malaysia

Chatti, Mohamed Ali and Kablan, Sandrine and Yousfi, Ouidad (2010): Activity diversification and performance of Islamic banks in Malaysia.

Abstract

The current paper analyzes the performance and the choice of portfolio in Islamic banks. We consider a sample of 8 Malaysian universal Islamic banks between 2004 and 2008. We use the Herfindahl-Hirschman Index (HHI) as an indicator of the degree of diversification. The performance of the banks is measured by the return on assets ratio (ROA) and the Risk Adjusted Return On Capital ratio (RAROC). Finally, we use the Modern Portfolio Theory (MPT) of Markowitz to define the efficient frontier and the optimal portfolio.The results show that the corporate and investment activity increases significantly returns on assets. However, retail and commercial activity improves the results and performance of these banks. We find evidence that the level of diversification is not too high and recommend that they become concentrated on just one type of these activities. Finally, the MPT supports the idea that Islamic banks are not efficient.

• Item Type: MPRA Paper
• Language: English
• Keywords: Diversification, performance, Islamic banks, Herfindhal Hirschmann Index, Modern Portfolio Theory.
• Subjects: G - Financial Economics > G1 - General Financial Markets > G11 - Portfolio Choice ; Investment Decisions; C - Mathematical and Quantitative Methods > C0 - General > C01 - Econometrics; G - Financial Economics > G2 - Financial Institutions and Services > G21 - Banks ; Depository Institutions ; Micro Finance Institutions ; Mortgages

References

Abdel-Hameed, (1999), « Risk and profitability measures is Islamic Banks: The case of two Sudanese banks”, Islamic Economic Studies, Vol. 6, No. 2.

Bacha, (2008), “The Islamic Interbank Money Market and a Dual Banking System : The Malaysian Experience”, MPRA Paper No. 12699.

Cubo-Ottone Alberto and Maurizio Murgia (2000), “Mergers and Shareholders Wealth in European Banking” Journal of Banking and Finance, 24 (6), 831-859.

Federal Reserve Bank of San Francisco (2009), Islamic finance, Malaysia’s growing role, July.

Goddard, McKillop and Wilson, (2008), “The diversification and financial performance of US credit unions”, Journal of Banking & Finance 32, 1836–1849.

Haron, (2004), « Determinants of Islamic bank profitability», Global Journal of Finance and Economics. USA, Vol 1, No 1.

KPMG International, (2007), « Growth and Diversification in Islamic Finance 1”.

Mohd. Yusof and Abd. Majid, (2007) “Stock Market Volatility Transmission in Malaysia: Islamic Versus Conventional Stock Market », J.KAU: Islamic Econ., Vol. 20, No. 2, pp: 17-35.

Samad and Hassan (1998), “The performance of Malaysian Islamic banks during 1984-1997: an exploratory study », International Journal of Islamic Financial Services Vol. 1 No.3.

Saunders, Anthony and Ingo Walter (1994), “How Risky Would Universal Banks Be?” in Universal Banking in the United States, Oxford University Press, 183-207.

Shimko, D. (1997), “See Sharpe or Be Flat,” Risk, June 10(6), 29.

Steve M., Klaus S., Simon W., (2007), “Small European banks: Benefits from diversification?”, Journal of Banking & Finance 31, 1975-1998.

Stiroh K. J. (2002), “Do Community Banks Benefit from Diversification?”.

Tahir and Abu Bakar, (2007), “Service Quality Gap and Customers’ Satisfactions of Commercial Banks in Malaysia”, International Review of Business Research Papers Vol. 3 No.4, Pp.327-336

Uyemura E.; C. Kantor, J. Pettit, (1996), “EVA for Banks: Value Creation, Risk Management and Profitability Measurement,” Journal of Applied Corporate Finance, 9, 94–133.

Zaik, E.; J. Walter; G. Kelling; C. James (1996), “RAROC at the Bank of America: from Theory to Practice,” Journal of Applied Corporate Finance, 9 (2) summer, 83-94.