- The Washington Times - Thursday, September 30, 2004

For the millions of Muslims in America who want to conduct their financial lives according to their faith, there are few options, especially when it comes to long-term investing.

Islam has strict rules regarding money, including a sweeping prohibition on interest, known as riba. This puts everything from conventional savings accounts and credit cards to interest-bearing or fixed-income investments such as bonds and Treasuries off limits for faithful Muslims. Islamic law, or Shariah, does allow stock investing, however, and a small but growing number of equity mutual funds are targeting Muslims with portfolios that invest only in acceptable, or halal, companies.

Devout Muslims do not drink alcohol, eat pork, gamble, view pornography or accept profits from interest — and any business that profits from these activities is haram, or forbidden. That cuts out the entire financial sector, many retailers, most hotel, restaurant and casino operators, businesses that are heavily leveraged and companies that derive a significant portion of revenue from interest on large cash positions. Makers of weapons and defense products, marketers of tobacco and polluters also are considered unacceptable.

“When you’re evaluating a company, what one has to do is not only look at their primary business, but look at their ancillary businesses, as well,” said Monem Salam, director of Islamic investing at Saturna Capital, investment adviser to the Amana funds. “You really have to dig deep into the financials and the annual reports to find this information.”

Islamic mutual funds are a subset of socially responsible funds, and with the exception of the prohibition on interest, they look a lot like many portfolios that invest with an eye toward Christian values or even environmentalism. Because they tend to avoid industrials and utilities, they often have a growth orientation.

Like socially responsible funds, Islamic funds use a screening process to determine which stocks are acceptable. They also consult a panel of scholars, known as a Shariah board, who help decide whether companies are good investments under the teachings of the prophet Muhammad. Energy companies, chemical manufacturers, high-tech concerns and telecom stocks often pass the test.

Globally, there are about 130 Islamic mutual funds, but only a small number operate out of the United States, including the two offerings from Bellingham, Wash.-based Amana Funds. With just $34 million in assets, Amana’s growth fund charges a relatively high expense ratio, but its performance shows halal investing doesn’t have to come at a cost. The fund is up 5.3 percent for the year, putting it in the top 5 percent of all funds in the mid-cap growth category. It’s been ranked high for the past three- and five-year periods, as well, handily beating overall the Standard & Poor’s 500 index.

There’s also the Dow Jones Islamic Fund, a basket of almost 300 companies, including many U.S. companies found in the Dow Jones Islamic Market, a global family of about 80 indexes launched in 1999. This fund, which has a more palatable expense ratio, is about 80 percent passively managed and about 20 percent actively managed. It’s down 2.89 percent for the year, but has posted above-average returns for the past three years.

Dow Jones uses a four-step screening process to determine which companies to include in its index, which is widely watched by Islamic investors who want to know which stocks are acceptable under Shariah. The first step is to eliminate any companies that derive more than 5 percent of their income from incompatible businesses; the second is to exclude companies with total debt-to-market capitalization ratios greater than 33 percent. The third screen excludes companies with interest revenue-to-market cap ratios of more than 33 percent, and the fourth excludes companies where accounts receivables are greater than 45 percent of total assets.

The result is a list of 1,500 companies from around the world. Some of the largest U.S. holdings include Exxon Mobil Corp., Microsoft Corp., Pfizer Inc., Johnson & Johnson and International Business Machines Corp.

The financial screens used by Islamic funds are the sort of thing any smart investor might apply, said David Kathman, a fund analyst with Morningstar Inc.

“The Amana fund is not a bad choice as a mid- to large-cap growth fund for anybody, which shows you don’t have to give up performance,” Mr. Kathman said. “But given its growth orientation, you should keep in mind that when there’s a bear market, it’s not going to do as well. That’s true of [socially responsible investing] funds in general.”

ASSOCIATED PRESS

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