What are Shariah-compliant investments?

Halal or Shariah investment funds cater for the specific requirements of followers of Islam.

| 4 min read

Shariah-compliant investments are governed by the requirements of Shariah law and the principles of Islam.

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. In this article, we’ll explore how to invest in accordance with this, along with useful information on halal investment funds you can consider.

What are Shariah 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.)
  • Alcohol
  • Pork-related products and non-halal food production, packaging and processing or connected activity
  • Gambling
  • Adult entertainment
  • Tobacco
  • Weapons and defence

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.

Finding Shariah-compliant investment funds

Shariah investment principles such as those compiled by FTSE Russell and MSCI can provide a useful reference point. You can find examples of companies that are considered to meet the principles, and certain funds are based on their composition. These are generally run on a ‘passive’ basis to replicate the performance of the index.

The investment screening process is comparable to that of ‘negatively screened’ ethical funds using ESG (environmental, social and governance) criteria. However, a Shariah-compliant fund will also have a Shariah board made up of Islamic scholars who decide or check which companies meet the rules. Different funds will have slightly different policies according to the beliefs and interpretations of their advisory board, so investors are advised to consult the fund’s prospectus to ensure it meets their own principles before investing.

As is the case with ethical investments, the extra layer of rules restricts fund managers from certain areas which could enhance or detract from returns over time. For instance, financials such as banks are mostly excluded but are often a large part of broader stock market indices. The outperformance or underperformance of this area would have implications for fund returns. Due to the outcomes of the screening process, there is often a sectoral bias toward healthcare and information technology.

Many halal funds operating in the area have high minimum investment sizes or are otherwise inaccessible to UK private investors. However, there are some that are easily accessible and have reasonably competitive charges, for instance:

More on halal investment funds

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) any documents relating to the fund’s approach to sustainability such as an impact report.

Please note: This article was released prior to SDR and thus the information may not be in line with the Anti-Greenwashing rule but contextually is appropriate for the time it was written.

Nothing on this website should be construed as personal advice based on your circumstances. No news or research item is a personal recommendation to deal.

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Investment decisions in fund and other collective investments should only be made after reading the Key Investor Information Document or Key Information Document, Supplementary Information Document and Prospectus.

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