How to become an ethical investor

Question: As a Muslim and as part of the spirit of Ramadan I have been thinking about becoming more ethically and socially responsible in my investments. I have all the usual types of personal finance investments, such as life insurance, health insurance and a pension plan, and also invest in the stock market, but I was wondering how to go about seeking more Islamic-centric savings policies and investments.

Answer: Many Muslims will be having similar thoughts during this month, and will look to make moves that allow them to practice and fulfil their religious obligations in relation to their financial well-being.

In terms of investments, one of the areas to consider is how these investments are managed, and if this is in line with personal ethical and social principals, and within Sharia law.

Typically ethical and socially responsible investment products limit investments to those funds that have a responsible stance towards the environment, society, human rights and other activities, such as arms trading, tobacco, alcohol, pork products and pornography.

Insurance products that adhere to the principals of the Islamic religion, known as Sharia compliant or Takaful, can also be viewed as ethically and socially responsible products. When it comes to Sharia compliant insurance, the industry is booming worldwide and products are available for both general and life insurance.

In April this year at the Sixth Annual World Takaful Conference in Dubai, Ernst and Young predicted that the worldwide Takaful insurance market would reach a value of $12 billion (Dh44 billion) in 2011, an increase of 31 per cent over $9.15 billion in 2010.

Sharing risk

The basic principle of Takaful is risk sharing as opposed to risk transfer in conventional insurance. In a Takaful risk-sharing scheme, there are three areas that must be avoided: Gharar (uncertainty); Maisir (gambling) and Riba (usury).

While uncertainty is an integral part of human existence, conducting sales or business transactions in a climate of uncertainty is not permitted. Takaful has been developed on a mutual help or mutual protection concept.

Profits distributed

The distinction between conventional insurance and Takaful business is that traditional insurance companies invest people's money in funds that are linked to the earning of interest, which is kept as profit.

Instead, Takaful products undertake only Sharia-compliant business, with the profits distributed in accordance with pre-agreed ratios.

Likewise, any surplus or loss is shared or deducted between all members.

The Takaful system also has a built-in mechanism to prevent the over-pricing of insurance policies, as whatever the premium charged the surplus normally goes back to the participants in proportion to their contributions.

When looking for Sharia compliant insurance products in the UAE, such as a pension or life insurance plan, speak to an independent financial adviser who will be able to provide you with a list of Sharia-compliant products.

If you are looking for ethical and socially responsible investment funds it may be better to look at offshore funds, as there are currently few available in the UAE.

Performance may be gauged against benchmarks that are chosen by the fund manager in the same way as conventional products. The initial investment required in these funds is no different from investing in other funds. However, the share prices may be more volatile and the investment managers may be less well known.

Research

A long-term investment strategy is necessary to secure good returns, which are equivalent in value to non-ethical investments with a similar benchmark.

It is always advisable to carry out research before making any kind of investment, and an independent financial adviser can assess your attitude to risk, and talk through all the ethical and socially responsible products on offer.

Roy Gaunt is a chartered insurance broker, MLRO/compliance manager at Nexus Group