Estimating the Expected Returns on Mudaraba Time Deposits of Islamic Banks

On the deposit side, Islamic banks work on a mudaraba (partnership) contract, where depositor and the bank are business partners. While in conventional banks the depositor is provided with a fixed interest rate, in Islamic banks the depositor can only discover his return when the investment period is over. This fundamental distinction brings forth a disadvantage for Islamic banks while competing with their conventional counterparts in the market. On the other hand most of the credits extended by Islamic banks follow a murabaha (cost-plus sale with deferred re-payment) contract, and the banks specify profit rate on the credits from the beginning. Using this information we have developed a forecast model to quote the depositors their expected returns on mudaraba time deposits within 95% confidence interval at the beginning of investment term. Besides increasing competitive advantage, estimating expected returns will assist Islamic banks in their risk management and asset-liability management.