Islamic Saving Options

The crux of Islamic investments is sharing of risk and exclusion of fixed or pre-determined interest products. In Islamic finance, profits only come at the cost of risk exposure but excessive risks and uncontrollable and uncertain obligations are also forbidden.
Islamic banking has seen some vibrant years in recent past whereby it received due recognition with a commendable double digit growth. Investors globally hold more than $1.5 trillion in Shariah-compliant investments and there are more than 500 funds globally that comply with Islamic principles, of which onethird of the funds were launched during the past four years - the figure is projected to double in the coming five years. This is despite the fact that the demand for Islamic products is still outpacing the supply, and there a dearth of education and training for Islamic investment managers and Shariah scholars. Islamic Finance Products fall into two broad categories - those that have the characteristics of Equity and those that have the characteristics of Debt. Equity products are considered "more" Shariah-compliant since these promote the Shariah principle that reward should come from sharing the risk of a venture. Nonetheless, debt products do have a place in the modern Islamic finance industry - e.g. Profit and loss sharing bank accounts.

By Wahaj Aslam Fund Manager - Siraj Islamic Funds

Investment Screening Criteria

1) Business of the investee company
The business of the investee company should be Halal. Accordingly, investment in shares of conventional banks, insurance companies, leasing companies, Modaraba companies, companies dealing in alcohol, gambling etc. are not permissible.

2) Debt to total assets

The total debt of the investee company should not exceed 40% of the total assets. The debt here includes all interest-based debt & interest based financing.

3) Illiquid to total assets

The total illiquid assets of the investee company as a percentage of the total assets should be at least 20%.

4) Investment in non-Shariah compliant activities and income from non-Shariah compliant investments
The total investment of the investee company in nonShariah compliant business should not exceed 33% of the total assets. The income from non-Shariah compliant investment should not exceed 5% of the gross revenue. Subsequently, giving the proportionate portion of noncompliant income to charity is required to purify the dividend income from these stocks.

Islamic Equity Finance

Investment in shares of a company (without the element of speculation or intra-day trading) is de facto Shariah compliant since Islamic finance values equity partnership as the ideal method of investment as long as the underlying business is compliant with the screening criteria. However, investors are prohibited from investing in preferred shares of stock due to the guaranteed rate of profit they entail. Islamic equity funds have experienced tremendous growth and have proved to be an attractive investment vehicle for investors looking for Islamic modes of investment.

5) Net liquid assets versus share price

The net liquid assets per share should be less than the market price of the share. [Net Liquid Assets = Total Assets - (Tangible Fixed Assets + Inventory) - Liabilities]

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Islamic Debt Finance (Deposits)

Profit and loss sharing (PLS) is the ideal business form in Islamic finance since it promotes equity and the sharing of risk and reward (partnership is highly regarded in Islamic financial Fiqh) between parties. There are two main forms of partnerships in use namely Modaraba and Musharaka. These two structures are used by Islamic banks in savings accounts. Islamic banks offer two kinds of deposits: Current accounts and Investment accounts. Current accounts are similar to those offered by conventional banks. The deposited capital is guaranteed and made available to the client at any moment whereby no reward or return is paid on deposits. They are mainly used for transaction and safety purposes and deposits are accepted on the concept of Qard / Loan. In contrast, Investment deposits or conversely Term Deposits based on the principles of Partnership (Modaraba or Musharaka) must remain with the bank for a certain, previously agreed, period (majority of Islamic Financial Institutions have now successfully launched PLS daily product deposits). Investment accounts are based on trust financing. The depositor is the financing partner, while the bank is the managing partner. The bank pools all investment deposits and searches for suitable investment opportunities. The return on investment (positive or negative) is then shared with the depositors, after the bank has deducted its own costs and a previously agreed fee for its efforts. In the event the investment is not profitable, the depositors share the loss. Their maximum liability is the deposited sum. Investment deposits can only be withdrawn prematurely by paying a certain fine.

When considering Islamic investment options, the following summarizes the saving options available in the market place:

Islamic Certificates of Investments

Certificate of Islamic Investment are offered by Islamic banks in various tenors ranging from one (1) month to five (5) years. In the prevailing environment, the average rate for a tenor of 6months and an investment of below Rs. 10 million is around 7.62% p.a.

Sukuk (Islamic Bonds)

Sukuk, one of the most popular investment instruments may be understood as a Shariah compliant 'Bond'. In its simplest form Sukuks represent ownership of an asset and not just a claim to the cash flow. A Sukuk can be of many types depending upon the type of Islamic modes of financing and trades used in its structuring. However, the most important and common among those are Ijarah, Shirkah, Salam and Istisna. Ijarah Sukuk is the most popular structure and has been recently launched by the Government of Pakistan as well. These Sukuks represent ownership of equal shares in a rented real estate, right to receive the rent and dispose of their Sukuk in a manner that does not affect the right of the lessee, i.e. they are tradable. The holders of such Sukuks bear all cost of maintenance and damage to the real estate. Ijara Sukuks issued by the Government are now available to individual investors as well since the State Bank has instructed banks to offer "Investor Portfolio Securities Account (IPS)" to its clients.

Real Estate
Investing in real estate is fundamentally one other permissible form of Islamic investment. Therefore, buying, maintaining, leasing, and selling real estate via which an income is generated is acceptable in the eyes of the Shariah. Real estate and property development is a key industry in the Middle East, the Arab world, and the Muslim world which requires a substantial amount of capital and may not be feasible or efficient for many investors. Consequently, investing in a Real Estate Investment Trust (REIT) is a more suitable option.

Modaraba
A Modaraba is a silent partnership between investors, or sleeping partners (known as the rabb-al-mal) who provide capital to an agent (the mudarib) who acts on their behalf and invests the capital on behalf of the investors. The investors and the agent share the profits of a venture (if any) according to a predetermined ratio. The mudarib may only use the funds for purposes that are explicitly defined in the contract. At the conclusion of the Modaraba transaction, the mudarib must return the principal and the predetermined share of profit to the investors.

Real Estate Investment Trust

A REIT is an entity that invests in different kinds of real estate or real estate related assets. The properties can be of a residential nature, or be commercial real estate properties, such as offices, hotels, and malls.

Musharaka
The Musharaka is a full contractual partnership formed to pursue a specific line of business or project. The project can be a new venture or an existing one that requires additional capital. In contrast to the Modaraba, a Musharaka allows each partner to contribute capital (i.e. each partner in the Musharaka receives an equity stake in the venture) and to jointly share in the profits and losses of the venture. Another key difference between the two contracts is that in the Musharaka each partner not only contributes capital, but also contributes some amount of labor.

Shariah Advisory Board

"Shariah Advisory Board (SAB)" is a regulatory body that supervises and ensures that the Islamic financial institutions perform their operations according to the Islamic law. Shariah supervision and approval is the main differentiating factor between a conventional and an Islamic instrument. An SAB comprises of appropriately qualified scholars to determine the relevant rules for financial transactions. Ideally the role of a Shariah advisor comes into play from the time of development of an Islamic product or service, to its launch and throughout the period it is offered. The Board provides their opinion on compliance by issuing a Fatwa (an Islamic legal opinion) which is a stamp of approval for an Islamic investment

Murabaha (Cost Plus)

This concept refers to the sale of goods at a price, which includes a profit margin agreed to by both parties. The purchase and selling price, other costs and the profit margin must be clearly stated at the time of the sale agreement. The investor is compensated for the time value of its money in the form of the profit margin. This is a fixed-income loan for the purchase of a real asset (such as real estate or a vehicle), with a fixed rate of interest determined by the profit margin.

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