Avoiding Interest-Based Revenues while Constructing Shariah-Compliant Portfolios: False Negatives and False Positives

Ozgur Arslan-Ayaydin, K.M.R. Boudt, Muhammad Wajid Raza

Research output: Contribution to JournalArticleAcademicpeer-review

Abstract

Shariah law prohibits investments in equities of companies for which interest income is a considerable source of revenue. In practice, this is often enforced by prohibiting investments in firms for which the reported interest-based revenues exceed a predetermined percentage of the firm’s total revenue. In this article, the authors investigate an alternative approach that consists of avoiding firms that are expected to have interest-based revenues exceeding the acceptable threshold over the investment horizon. They compare the traditional backward-looking approach with the proposed forward-looking analysis for a sample of S&P 500 firms over the period 1984–2015. Their results show that the forward-looking approach outperforms the backward-looking approach in terms of both fewer false positives (firms classified as compliant when they are not) and false negatives (firms classified as not compliant when they are).
Original languageEnglish
Pages (from-to)136-143
Number of pages8
JournalThe Journal of Portfolio Management
Volume44
Issue number5
DOIs
Publication statusPublished - May 2018

Keywords

  • Portfolio
  • Shariah
  • screening

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