Tuesday 17 December 2019 9:27 amCFA Institute Talk

SRI investing and Islamic finance: the same but different

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These are articles written by professionals for investment professionals. They are contributions from external subject matter experts who do not work for CFA Institute, but may be a CFA charterholder as well as a member of a CFA Society. All are experts in their field and strive to deliver useful insights that help investment professionals make better decisions.

Sustainable, responsible, and impact (SRI) investing and Islamic finance share similar origins and aspirations.

Yet for the most part, these two modes of finance have existed as distinct approaches in parallel worlds.

Common to both is an ethical underpinning that puts stewardship and societal value creation at the forefront of finance.

CFA Institute has recently released new research that aims to articulate the similarities—and differences—between SRI investing and Islamic finance.

SRI and Islamic Finance report by CFA Institute
Download the report here.

We trace the early origins of both schools of thought, identifying their historical connections, and identify the main concepts in each approach.

Central to any discussion of SRI investing are environmental, social, and governance (ESG) considerations—the core factors around which an SRI investment approach is developed, such as through screening, full integration into security valuation and portfolio management, and thematic and impact investing.

Points of convergence

The estimated size of the global assets of SRI investing and Islamic finance have exceeded US$30 trillion (1) and US$2 trillion (2), respectively.

No less importantly, these segments seem to be trying to address the concerns many have regarding financial services, from causing economic instability to worsening inequality and more. Both are growing and evolving fields and have much unrealized potential.

SRI investing and Islamic finance have a natural tendency to consider their impact on society and the environment. The modern expression in financial services that best captures this tendency is the consideration of environmental, social, and governance (ESG) issues.

Main differences of Islamic Finance

Islamic finance is finance that abides by the Islamic prohibitions regarding the purpose and structure of finance.

It must avoid financing prohibited businesses and is most commonly associated with the prohibitions of riba (lending money at interest) and excessive gharar (sale of risk).

At face value, these restrictions imply a very different approach from SRI investing—one that is ill-fitting with conventional finance. Viewed through another lens, however, certain Islamic prohibitions can be seen as consistent with a negative screening approach under ESG investing, for example.

Moreover, an idea strongly associated with Islamic finance is that financiers and those being financed need to assume risk associated with business outcomes or ownership of an asset.

Where risk is to be managed through insurance, it should be done through a mutual risk sharing arrangement.

Since the 2008 global financial crisis, blamed on the excesses of the financial sector, Islamic finance has been saying the kinds of things many want to hear from the financial sector, such as making finance a servant, not the master, of the real economy where goods and services are produced.

Find out more

In this report, we explore the ethical bridge that can straddle both modes of finance, by analysing the ways in which these two modes of finance converge and diverge.

The findings highlight the accessibility of each approach to prospective investors whilst acknowledging limitations in implementation.

Please follow the link to download the report.

Sources: (1) Global Sustainable Investment Alliance, “2018 Global Sustainable Investment Review.” (2) Islamic Financial Services Board, Islamic Financial Services Industry Stability Report 2019 (Kuala Lumpur: Islamic Financial Services Board, 2019).

Usman Hayat, CFA, CEO of Audit Oversight Board in Pakistan

William Tohmé, CFA, Senior Regional Head, Middle East and North Africa at CFA Institute

Image credits: ADEK BERRY/AFP via Getty Images