Before we begin analyzing Shariah Investing, let's first understand what Shariah is.
Shariah, broadly translated as 'clear path' or 'way to the original source', governs the day-to-day life of people following Islamic tradition, including financial activities like investing.
What is Shariah Investing?
Shariah investing is investing in compliance with the set goals and values under Shariah.
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.
Under Shariah investing, you must comply with a set of principles.
Let's take a look at these principles.
Three Major Principles of Shariah Investing
- Prohibition of Interest
Interest is prohibited under Shariah. 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. This rental income received by the bank will further be distributed among the depositors of the bank as a way of sharing profits.
- 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.
- 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.
Mutual Fund investments are subject to market risks, read all scheme related documents carefully.
