Mastering Islamic Finance: The Ultimate Guide to Sharia Investment

Before we even begin talking about Sharia, kudos to you as you had chosen to follow the religious rules of Islam in your investing journey, thus being loyal. You not only follow the rules laid in front of you but also have chosen a more ethical and responsible way to invest. But let’s all agree to the fact that this wasn’t an easy decision as you may have faced several hardships trying to curate a Sharia Investment Portfolio/Fund.

Being a Sharia investor you might compare yourself with your fellow non-Sharia investors and look in awe at the number of avenues they invest in. You may also think and be worried that this universe of Sharia investing is small and there aren’t many options in India to invest in. Well, the answer is both a Yes and a No. 

Did you know that you can create a customized Sharia portfolio apart from the regulated investments just by satisfying all the rules? 

Read on to find out more about this.

Principles of Sharia Investing:

Let’s visit the 3 core principles of Sharia Investing, as they are the foundation on which the entire financial plan is to be drafted.

Prohibition of Interest:

 Interest, in any form, is prohibited in Sharia. We aren’t supposed to give or get any interest and is considered unlawful to do so.

Prohibition to invest in certain businesses:

Sharia prohibits you from investing in business from the alcohol industry, gambling, and products from pork or receiving any interest from these companies.

Wealth Distribution:

As per Sharia Investing Principles, you are required to share a certain % of your profit. This is said to alleviate poverty as the rich-poor divide is reduced under profit sharing..

Dissecting the elements of Sharia Investing:     

• First and the most important aspect of following the Sharia Investing principles is being religiously compliant with your religion’s laws. In this way, you are being ethically right and socially responsible.
• Sharia Investment rules prevent you from investing in companies with high leverages and is less volatile and also has lesser drawdowns. The below picture from Bloomberg shows that the drawdown is comparatively lesser in Islamic funds.

• Smaller Universe:

   The world of Islamic or Sharia investing is smaller when compared to the conventional investment style. Due to this style of investing the fund manager who manages the Sharia funds miss out on the diversification in this fund. This lack of diversification may also mean that they may over-invest in a sector and cause an imbalance. He/she may not be able to select some stocks in their portfolio and may miss out on certain sectors.

• Compliant Risk:

   There is also a compliance risk that stocks invested by the Sharia-compliant funds may turn non-compliant. In such cases the fund manager has to exclude these stocks from his portfolio, again causing an imbalance.

• Less Regulation:

   Some countries like ours do not have a regulated form of Sharia investing framework or an Islamic bank for that matter. In 2006 Raghuram Rajan, the erstwhile RBI governor had plans to incorporate Islamic banking but the plan never took off.

• Scams in name of Sharia or Halal funds:

   With the advent of technology and the availability of information to everyone, the number of scams associated with Sharia /Halal investing has also gone up. Many scams have been unearthed in the recent past where people have been lured into investing in Ponzi schemes in the name of Sharia-compliant funds. They have been compromised by such Ponzi schemes to the tune of about 2000 crores.

Sachar committee which was formed in 2005 to study the socio-economic conditions of Muslims in India observed that Muslim investors are often enticed in the name of religion to invest in such Ponzi schemes. An example of such a scam was the Amidant scam in Bengaluru where the promoters promised a return of 12% every month. This turns out to be ~144% return over one year. Crazy stuff, isn’t it? How do we stay clear of such scams?

Given all the pros and cons of Sharia-based investing, it may seem that the options to invest are limited. Yes. Only a Sharia-certified fund can be 100% compliant, and we do not have much at our disposal. 

But as mentioned in the beginning we can curate a portfolio taking only the essence of Sharia and formulate an end-end plan for all goals. Wondering how? Let’s see how we can create one such plan.

Islamic or Sharia Investment portfolio:

Emergency Fund:

When you think of an instrument for the liquidity and safety of the funds FD is the most convenient and easiest way to have your emergency fund. But for Islamic or Sharia Investing, this doesn’t hold well as it is an interest-yielding instrument. The next option is liquid funds. Though the returns from liquid funds are not in the form of interest, you may be still wary that these are directly benefited by the interest of the underlying debt and fixed-income securities.

If you are ok with the above caveat you can go in for a liquid fund. But if you are still looking for a Sharia-certified investment you can opt for the Sharia savings accounts which are offered by some of the Islamic banks in India. The Taqwa credit cooperation society is one of the very few banks. Taqwa CCS Ltd was established in 2015, registered under the Credit Cooperative Society Act 1959/60 of Karnataka, with a vision to be the First Islamic Banking Model in India. You can make a savings account with them for your emergency fund.

Short-term Investing for Sharia Investment:

A Short-term Sharia Investment portfolio is the trickiest part. In the conventional world, the short-term requirements are taken care of by the debt components. But being Sharia-compliant these are forbidden. 

The only other alternative is gold bees. Were you amazed as to why this came up? So am I.

These are the only instruments available for us to invest in the short term. You may rebut by saying that gold is conventionally for a longer term and that it is volatile. Yes, you are right about this. For any short-term instrument, the major criteria is to make our capital appreciate at a decent pace and that it should be highly liquid as and when required. Of all the other instruments available under Sharia, only gold can satisfy these criteria to some extent. Please note that this is speculative. Gold may produce lesser or even negative returns in periods lesser than 3 years. So for a 3-5 year timeframe, you can consider gold to be a safer haven and be Sharia compliant.

To gain more insights on the Gold Investments, we would recommend you to watch this video: Gold: As an Asset Class – What is the Role of Gold in your Portfolio? — Watch here

Long-term investing for Sharia Investment:

Long-term Sharia investing is comparatively easier than short-term ones by virtue of the funds available. There are 3 regulated funds in India available for investment. 

• Tata Ethical Fund and Taurus Ethical Funds are 2 funds that are suitable for long-term investors for capital appreciation. 
• Nippon India ETF Sharia BeEs (formerly Reliance ETF Sharia BeES) is the only known Sharia-compliant ETF available in India. This mimics the N50 Sharia index fund and has weights proportionate to the same.  

But do you think these 3 funds are sufficient enough to give you the required diversification and overall wealth creation? 

We will try to answer this by taking cues from the Sharia principles and devising a plan.

Let’s make it simple. Consider the top stocks that are traded in India and are part of the Nifty 50 index. This includes the IT majors like TCS and Infosys, banking giants like HDFC bank, ICICI banks, FMCG majors like ITC, and pharma companies like Divis, Cipla, etc. As it is unlawful to invest in interest-generating assets we rule out banking stocks. We also rule out FMCG sectors like ITC as they have certain products which do not adhere to the Islamic Investing law. After all, these are filtered we have sectors like Tech, Pharma, metals, Auto, and others sectors. You can simply invest in these thematic funds and be Sharia-compliant.

InVITs and REIT’s:

There are also InVITs and REIT’s that are Sharia certified which you can consider. We shall apply the Sharia Investing principles here and make a sharia complaint InVITs and REIT’s. For instance, check the underlying business that is undertaken in the premises. If alcohol or pork is not served in the premises of the REIT and if the REIT doesn’t house any interest-bearing asset, then the REIT can be considered to be a Sharia-compliant. The same is applicable for InVIT’s as well. InVIT’s pool money from investors to invest it in assets generating which results in cash flow. Now, this asset which they invest in needs to be fact-checked for Sharia compliance. Check if the InVIT’s is highly leveraged or debt-ridden. If isn’t then it can be considered for Sharia investing for a longer term. Do note that the liquidity is lesser in the case of REIT’s and InVIT’s as they can be only sold in the secondary markets.

 Bottomline:

Just like all investing styles Sharia investing has its share of pros and cons. If you are planning to invest only in the 100% certified Sharia complaint funds then the options are fewer. However, if we understand the basis of the Sharia Investing principles and tweak as we have discussed, our investment styles to match, then there are many more avenues open up for investing. 

As informed investors, we should weigh all the options with us and should take the right decision. Happy Investing!