When translated from Arabic, the meaning of Shariah in literal terms is ‘the clear, well-trodden path to water’. It’s the code by which people of the Muslim faith live their lives, covering a wide range of topics like prayers, food, and financial affairs.
The Islamic tradition governs that you must be ethically and socially responsible while investing your money. It means that your investments not only benefit you but also contribute to the overall development of society.
Interestingly, Islam has had a long affinity with the financial world. In the 2nd century, the famous Silk Road ran through the Arabian Peninsula and Northern Africa - where locals developed an economy based on trading1.
This ‘merchant capitalism’ combined an Islamic socialist ruling that branded interest as forbidden because it was seen to create social injustice, as individuals could create wealth without much effort.
For modern-day Muslims this presents challenges. Cash accounts, credit cards, loans and even investing in the stock market may well involve the payment of interest. Some funds and companies will also invest in sectors that are not permissible in Islam like gambling or alcohol.
Under Shariah investing, you must comply with a set of principles.
Anything discouraged or banned by Shariah law is regarded as haram, while suitable activities are halal. Haram activities notably include:
● Conventional finance (non-Islamic banking, finance and insurance, etc.).
● Pork-related products and non-halal food production, packaging and processing or connected activity.
● Adult entertainment.
● Weapons and defence.
Three Major Principles of Shariah Investing
Prohibition of Interest
You are not allowed to either pay or receive interest as it is considered unjust. For example, a bank following Shariah cannot give interest-based home loan to you. Instead, the bank will purchase the house and rent it to you, and you are required to pay rent to the bank.
Prohibition to Invest in Certain Businesses
Shariah prohibits you from investing in businesses that earn their income through the sale of alcohol, abusive drugs, pork products, gambling, weapons, and other such products. You are also forbidden to invest in companies that earn most of their income, like interest from others.
Balanced Distribution of Wealth
As per Shariah, you must pay a certain percentage of your wealth as an act of charity. If we compare it with Tax, it is somewhat similar in the sense that you must share your wealth with others who are less fortunate. It is considered to cleanse and purify the remainder of your wealth.
In addition to the above three points, Shariah also governs both risks and returns associated with any financial transaction that must be shared between both parties. No one party must be the only beneficiary.
A Shariah-compliant investment fund is made by filtering out companies that do not follow these principles. In addition, there are requirements surrounding the use of debt and interest-bearing assets. Islamic law prohibits the collection and payment of interest by lenders and investors. To earn money without charging interest, Islamic banks agree to participate in a certain amount of profit or loss the business generates.
There are also some generally accepted accounting restrictions in Shariah investing. Companies must maintain a debt-to-equity ratio less than 33%, which rules out businesses with high levels of borrowing and means a focus on more stable businesses. In addition, halal-compliant companies must generally have accounts receivable and cash of less than 50% of total assets.
While the options for halal investment remain somewhat limited at present, the movement towards broader responsible investing – whereby increasing numbers of people wish to see their values reflected in their investment portfolio – could see this niche area expand and evolve too.
There are some clear parallels between Shariah-compliant investing and principles of sustainability that encompass strong corporate governance, environmental stewardship and societal good.
In some cases, broader ethical or responsible funds might also meet an investor’s needs and principles due to the high degree of overlap, though care should be taken when selecting this type of fund. It is important to read fund literature carefully to check values are aligned with your own. Important resources in this regard are the fund’s Key Information Document, Prospectus and (if applicable) the Impact Report.
How to Invest Following Shariah Principles?
Following the Shariah principle, you can invest in stocks or mutual funds. However, it can be challenging to select Shariah-compliant stocks. In that case, investing in a Shariah based mutual fund can help. There are Shariah-compliant mutual funds available in India. These funds invest your money in socially responsible businesses based on the principles of Shariah. With a focused investment objective guided by Shariah, these mutual funds can provide capital appreciation, diversification and income distribution. These mutual funds have Shariah indices as their benchmark. An investor should consider the fund details available in the Key Information Memorandum (KIM) and the Scheme Information Document (SID) before
investing in Shariah-compliant funds. This can help you know the risk profile, asset allocation, past performance, and other details about the fund.
What we are offering:
For clients who seek adherence to the investment principles of Islamic Law, Mithril Asset Management brings to bear its extensive global investing expertise in combination with the knowledge and advice of Shariah scholars to deliver customised Shariah-compliant portfolios across a range of asset classes including global and regional equities and Sukuk.