Mutual Funds

Shari’ah scholars are almost unanimous in approval of investing in equity shares of joint stock companies as long as these companies are not involved in any activities which are prohibited in Islam. The prohibited activities include interest based debt financing, earning interest on cash, trading or manufacturing related to pork, alcohol, gambling, etc. In reality, companies free of such activities would be extremely rare among what is available in the world wide equity markets. In that case, a number of scholars have allowed minimal levels of interest dealings which can be purified by donating equivalent portions of profits to charity. Trading or manufacturing prohibited goods is never allowed. Thus an equity fund which invests in acceptable companies and earns profits through dividends and capital gains of shares of these companies is deemed acceptable.

Certain scholars are of the view that besides avoiding non-Halal businesses, no investment should be made in companies dealing in interest. They argue that every shareholder is a part owner of the company, and by involvement in interest, the shareholder is sanctioning this activity. The shareholder is responsible for all the management’s decisions, since the management is supposed to work in the interest of the shareholder. Further, debt financing makes all business activity non-Halal. Any earnings derived from interest also make company’s profits impure. This makes all dividends or capital gains earned from owning or trading of shares of these companies unacceptable.

Majority of modern scholars do not endorse this view though. This opinion is simplistic and does not take into account the structure and operation of a modern joint stock company. These scholars elucidate that the structure of a modern company is not the same as a simple partnership. Modern companies have separated management from ownership and each individual stock owner cannot be held responsible for all the decisions. Major policy decisions and selection of the company board is done by a majority vote of the stock holders. The board then hires the management to make operational decisions. Any stock holder can raise objection to an activity which is not in compliance with Shari’ah but that would have to be approved by the majority.

An alternative is offered by these scholars that if primary activity is Halal and only minor share of income is attributed to interest based earnings. The interest income is incidental and not a primary source of revenue for the business. The shareholder can find out from the annual report the profits from interest and give equivalent portion of this profit in charity. A similar situation arises in payment of interest. Many transactions in modern business include payment of interest on short term borrowing. Even though it is forbidden in Islam to borrow money on interest, this is not in total control of the shareholder. The scholars consider investment in such company acceptable as long as the primary source of financing is not from debt. The shareholder cannot be responsible for payment of interest on transactional borrowing.

All for profit companies conduct business to generate profits, which is not prohibited in Islam. Trading in Halal products is encouraged in Islam. Since most businesses have some dealings in interest, it is a challenge for a fund manager to select companies free of interest dealings. Scholars have derived their opinion based on practices of past Muslims who always traded with non-Muslims. Makkah was a main trading center of Arabia even in pre-Islamic times. Muslims cannot expect non-Muslims to abide by their rules for not dealing interest. Scholars are of the opinion that Islamic funds can invest in the shares of companies as long as they are not involved in prohibited activities or do not derive their main income through interest.

The priority of Islamic funds should be to provide Shari’ah compliant investment vehicles for the investors while supporting the businesses which adhere to Islamic principles. Several areas of the economy do not involve interest or could be made free of interest. These include real estate, commodities, foreign currencies, and general trade financing transactions. These areas require further exploration. In order to succeed the funds have to provide expertise in investment selection and management, Islamic finance, and Shari’ah principles. This will enable Muslim investors, companies, and financial institutions to participate in international markets and reap the rewards this growing area.

In order to further support global Islamic economy the Islamic funds should give priority to Islamic banks and investment houses, financial markets of Muslim countries, and Companies operating under the Islamic System. This prioritization will act as a catalyst to grow international Islamic corporate and securities markets thus benefiting Islamic banks and financial institutions and also empowering the world Islamic financial system. One example of an Islamic fund is Azzad Wise Capital Fund in the US which consists of securities primarily from Islamic countries. Their holding include companies in Bahrain, Kuwait, Malaysia, Qatar, Turkey, UAE, and others. This offers Halal investment for US based Islamic investor while supporting companies in the Muslim world. This is the first fund of its kind in the vast US market. The investors do expect performance from these funds yet want them to meet their moral standards.