Investment in Stocks and Shares

In the Name of Allah, The Most Gracious, The Most Merciful 

Research Paper on Investment in Stocks and Shares

Summary

This fatwā seeks to clarify the Sharīʿah position on investing in stocks and shares. It focuses particularly on four areas:

  • The Dow Jones Islamic indices
  • The cleansing of impermissible activities
  • The cleansing of interest
  • Screening criteria for investments in stocks and shares

The Dow Jones Islamic Market Indices are part of an Index created for investors seeking investments in compliance with Muslim Sharīʿah law. This fatwā confirms that the Al Qalam Sharīʿah panel find the methodology of assessing investments and shares for sharīʿah compatibility to be acceptable. The fatwā clarifies the criteria of the Dow Jones Islamic Indices, which are mainly twofold: –

  1. The company has debt totalling less than one third or market capitalisation
  2. Annual sale of impermissible activities totals less than 5% of annual turnover

The fatwā emphasises the importance of calculating the exact figure of the proportion of money gained from impermissible activities and stresses that this money should be donated to charity in order to purify the dividend income.

The cleansing of interest is also examined, with the fatwā clarifying that if an exact amount cannot be calculated, then an estimation must be made on the current market rate.

The fatwā lists the Al Qalam criteria for screening investments, under which five key benchmarks are explained:

  1. The business must be lawful
  2. The total debt of the company should not exceed 33% of the total assets (this includes interest based debt)
  3. The total illiquid assets of the company should be at least 33%
  4. The income from non- sharīʿah complain investment should not exceed 5% of gross revenue
  5. The net liquid assets per share should be less than the market price of the share.

This fatwā concludes by providing a practical breakdown of the dividend purification process for a hypothetical investment in an Al-Qalam approved company.

 

Investment in Stocks and Shares

الجواب حامدًا و مصليًا و مسلمًا و منه الصدق و الصواب

Firstly, I am able confirm that the criteria adopted by the Dow Jones Islamic Indices is acceptable to members of the Al-Qalam Shariah Panel.

Secondly, with regards to the impermissible activities of less than 5%, I can also confirm that while capital growth does not require purification in our view, it is more cautious to give the capital growth to charity as well as the dividend.  However, it is not correct to assume that the cleansing of impermissible activities as a percentage of turnover is adequate.  Rather, the actual amount of non-compliant income earned by the investee company must be calculated.  This is clearly stated in the following Screening Criteria agreed by the Al-Qalam Shariah Panel members on 27th January 2008.

Screening Criteria for Investment in Stocks / Shares

 

1. Business of the investee company

The business of the investee company should be lawful. Accordingly, investment in shares of conventional banks, insurance companies, leasing companies, companies dealing in alcohol etc are not permissible.

2. Debt to total assets

The total debt of the investee company should not exceed 33%[1] 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 also be at least 33%[2].

4. Investment in non-Shariah compliant activities and income from non-Shariah compliant investments

The following two conditions must be observed for share screening purposes:

• The total investment of the investee company in non-Shariah compliant business should not exceed 33% of the total assets.

• The income from Non-Shariah Compliant Investment [3] should not exceed 5%[4] of the gross revenue. (Gross revenue means net sales plus other income). Subsequently, giving the proportionate portion of non-compliant income to charity is required to purify the dividend income from these stocks. However, capital gain on these stocks needs not to be purified.

 

5. Net liquid assets versus share price

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

Thus, if a company satisfies the above criteria it will be permissible to invest in such a company and any income earned from impermissible activities must be cleansed accordingly.

 

E.g.  “ABC Company”, whose non-compliant income (NCI) to gross revenue (GR) ratio is say 4% and its non-compliant investments (NCIn) to total assets (TA) ratio is 25%, and it is also in compliance with the remaining criteria. Based on these screening criteria the company is Shariah compliant for investment purposes.  Now “ABC Company” declares dividend for its share holders of say 20 pence per share and your investments in that company are of 1000 shares.

The dividend purification process is that this total amount of dividend received (1000 shares x 20 pence per share dividend) £200 is multiplied with the percentage of non-compliant income received by the company (which in this case is 4%)

The dividend purification amount is:  £200 x 4% = £8.  Thus, £8 will be given in charity on account of dividend purification.

With regards to the cleansing of interest earned, if accurate information is not available one must make an informed approximation based on prevalent market rate.  Notwithstanding, it would be more precautionary to give more than the resultant approximation to charity.

 

If a company declines in any given year to issue a dividend, and / or generates a loss on share price during the same period, one is still required to apply the cleansing process to the actual amount of income earned from impermissible activities as described above. 

 

And Allah knows best.

Mohammed Zubair Butt

Chair, Al-Qalam Shariah Panel

First answered: 1st Safar 1429 || 8th February 2008

Updated upload:9th Rabbi ul Awwal 1435  || 10th January 2014


[1] The figure of 33% is based on one third being considered ‘abundant’ in the hadith reported by al-Tirmidhi.
[2]  Some scholars have said 51%, as – للأكثر حكم الكل – the majority deserves to be treaded as the whole.  Others have said 33% as one third is considered abundant.  According to the hanafiyyah there is no specific ratio.  The only conditions are that the liquid part must not be negligible, and the price of the combination of the liquid and illiquid assets must be more than the value of the liquid assets.
[3]  Non Compliant Income (NCI) refers to the ACTUAL AMOUNT of NCI earned by the investee company, and not the % of NCI to turnover, divided by the Total Gross Revenue of that company.
[4]  This figure of 5% is based on the collective opinion of contemporary ‘ulama.