What are Shariah-Compliant Funds?
Shariah-compliant funds areinvestment funds governed by the requirements of Shariah law and the principles of the Islamic religion. Shariah-compliant funds are considered to be a type of socially responsible investing.
Understanding Shariah-Compliant Funds
Shariah-compliant funds are one of many categories found in socially responsible investing. Similar to other socially responsible funds within the environmental, social and governance (ESG) universe, the funds screen potential portfolio investments for specific requirements desired by followers of the Islamic religion.
Shariah-compliant funds have expanded in popularity only recently, even though the concept was first developed in the late 1960s. According to a 2011 report by consulting firm PricewaterhouseCoopers (PwC), Shariah-compliant funds grew at an annualized rate of 26% in the first ten years of this century. The report further states that "an inflection point" in their growth occurred between 2002 and 2003, when petrodollar liquidity multiplied and capital markets in the Gulf Cooperation Council (GCC) countries matured to enable investment.
According to a report by the Malaysia Islamic International Financial Center, total global Islamic assets under management (AUM) were $70.8 billion at the end of the first quarter of 2017.The corresponding figure in 2008 was $47 billion. However, it is difficult to accurately estimate the industry's size or valuation because much of the investment occurs through private placement. The funds are also not traded in secondary markets, thereby providing less of a window into their constituents.
The concept requires considerable effort to implement, since much attention must be paid to compliance with a comprehensive set of rules and requirements guided by the Shariah principles.
Shariah-compliant funds have many requirements that must be adhered to. Some of the requirements for a Shariah-compliant fund include the exclusion of investments which derive a majority of their income from the sale of alcohol, pork products, p*rnography, gambling, military equipment or weapons. Other characteristics of a Shariah-compliant fund include an appointed Shariah board, an annual Shariahauditand purifying certain prohibited types of income, such as interest, by donating them to a charity.
These rules can add complexity and costs to the management of a Shariah-compliant fund. For example, Shariah boards are constituted of Islamic scholars whose fees can run into millions of dollars per year, adding to the overall cost of managing the fund. The scholars have varying interpretations of Islamic law, making it difficult and time-consuming for them to arrive at a consensus for analysis and implementation regarding a particular course of action.
Popular categories of investment for Shariah-compliant funds include real estate and exchange-traded funds. Private equity is also considered a good investment but carried interest is considered a problem within Shariah law.
Key Takeaways
- Shariah-compliant funds are investment funds that comply with Islamic law.
- They are different from conventional investment funds because they have many requirements, such as appointment of a Shariah board and prohibition from investing in companies that derive a majority of their income from sale of alcohol, pork products, gambling etc.
- While Shariah-compliant funds have grown at a respectable clip, it is difficult to accurately estimate the industry's size or valuation.
Examples of Shariah-Compliant Investments
A number of products and indexes exist to accommodate Shariah-compliant investing. Saturna Capital provides several Shariah-compliant investment funds through its Amana series. Its Amana Growth Fund (AMAGX) seeks long-term capital growth through investments adhering to Islamic principles. The Fund was launched on February 3, 1994. The Amana Growth Fund is a mutual fundinvesting at least 80% of its assets in common stocks. As of November 2017 it had $1.7 billion in total assets under management. It has an expense ratio of 1.10%. It requires a minimum investment of $250. Technology investments account for a significant portion of the Fund’s assets at 48%. Other sectors include healthcare, industrials, consumer defensive and consumer cyclical.
S&P Dow Jones Indices has created many Shariah-compliant indexes for Muslim investors. The S&P 500 Shariah was launched in December 2006. The S&P 500 Shariah Index is comprised of all of the Shariah-compliant constituents in the S&P 500. As of October 2017, it had 235 constituents with information technology accounting for the largest portion of the Index at 38%.
Other Shariah-compliant indexes maintained by S&P Dow Jones include: S&P Global Healthcare Shariah, S&P Global Infrastructure Shariah, S&P Developed Large and Mid Cap Shariah, S&P Developed Small Cap Shariah and the S&P Developed BMI Shariah Index.
Shariah-compliant funds are a specialized form of investment adhering to Islamic law's principles. These funds cater to investors who seek ethical and religious compliance in their portfolios. The concept isn't entirely new, originating in the late 1960s, but its substantial growth became prominent around the early 2000s, particularly due to increased liquidity from petrodollars and the maturation of capital markets in Gulf Cooperation Council countries.
A crucial element in Shariah-compliant funds is the stringent screening process. These funds exclude investments deriving income from prohibited activities according to Islamic principles, such as alcohol, pork products, gambling, and weapons. Compliance involves maintaining a Shariah board, conducting annual Shariah audits, and purifying prohibited income by donating it to charity.
Determining the industry's exact valuation is challenging because much of the investment occurs through private placements, and these funds aren't traded in secondary markets. However, reports have shown substantial growth. For instance, according to a PricewaterhouseCoopers report, Shariah-compliant funds grew at an annualized rate of 26% in the first decade of the 21st century.
Implementing Shariah compliance demands meticulous attention to rules guided by Shariah principles. These rules add complexity and costs to fund management. Shariah boards, comprising Islamic scholars with varying interpretations of Islamic law, incur substantial fees, sometimes reaching millions of dollars annually. These scholars invest significant time in analyzing and implementing actions according to Shariah guidelines, leading to potential delays in decision-making.
Shariah-compliant funds commonly invest in real estate, exchange-traded funds (ETFs), and private equity, avoiding interest-based instruments. For instance, the Amana Growth Fund by Saturna Capital and various Shariah-compliant indexes by S&P Dow Jones Indices cater to this investment approach. The Amana Growth Fund, launched in 1994, prioritizes long-term capital growth while adhering to Islamic principles, with a majority of its assets allocated to technology investments.
S&P Dow Jones offers a range of Shariah-compliant indexes, including the S&P 500 Shariah Index, composed of Shariah-compliant constituents in the S&P 500. These indexes cover various sectors like technology, healthcare, infrastructure, and global markets, providing diversified options for Shariah-compliant investors.
The rigorous adherence to Shariah law and the growth of Shariah-compliant funds underscore the increasing significance of ethical and religious considerations in investment choices.
