Evaluating the Shariah-compliance of equity portfolios: The weighting method matters

Like every equity investment strategy, a Shariah compliant equity portfolio makes implicit bets. The most obvious bet is the application of sector and financial screens to select the Shariah-compliant stocks. In this paper, we focus on the impact of the weighting method. Most Shariah compliant equity portfolios are market capitalization weighted. We first of all demonstrate the negative impact on the Islamic investor of choosing market capitalization weighting under the assumption of mispricing. We then investigate the use of alternative weighting methods in Shariah compliant equity investing, namely the approach of equal-weighting and low risk weighting. For the universe of Shariah compliant S&P 500 stocks over the period 1984-2014, we show that the equal-weighting and low risk weighted portfolios outperform the market capitalization weighted benchmark.

Publication year:2019

Keywords:Equal weighting, Fundamental weighting, Islamic finance, Low risk weighting, Market capitalization, Shariah-compliant investing

CSS-citation score:1