Share trading in Islamic Finance
Fahid Fayaz Darangay
Shares are units of equity ownership interest in a corporation that exist as a financial asset providing for an equal distribution in any residual profits, if any are declared, in the form of dividends. Shareholders may also enjoy capital gains if the value of the company rises. Shares represent equity stock in a firm, with the two main types of shares being common shares and preferred shares. As a result, “shares” and “stock” are commonly used interchangeably.
When establishing a corporation, owners may choose to issue common stock or preferred shares to investors. Companies issue equity shares to investors in return for capital, which is used to grow and operate the firm. Unlike debt capital, obtained through a loan or bond issue, equity has no legal mandate to be repaid to investors, and shares, while they may pay dividends as a distribution of profits, do not pay interest.
Nearly all companies, from small partnerships or LLCs to multinational corporations, issue shares of some kind. Shares of privately-held companies or partnerships are owned by the founders or partners. As small companies grow, shares are sold to outside investors in the primary market. These may include friends or family, and then angel or venture (VC) investors. If the company continues to grow, it may seek to raise additional equity capital by selling shares to the public on the secondary market via an initial share offering (IPO). After an IPO, a company’s shares are said to be publicly traded and become listed on a stock exchange.
Most companies issue common shares. These provide shareholders with a residual claim on the company and its profits, providing potential investment growth through both capital gains and dividends. Common shares also come with voting rights, giving shareholders more control over the business.
These rights allow shareholders of record in a company to vote on certain corporate actions, elect members to the board of directors, and approve issuing new securities or payment of dividends. In addition, certain common stock comes with pre-emptive rights, ensuring that shareholders may buy new shares and retain their percentage of ownership when the corporation issues new stock.
In comparison, preferred shares typically do not offer much market appreciation in value or voting rights in the corporation. However, this type of stock typically has set payment criteria, a dividend that is paid out regularly, making the stock less risky than common stock.
Because preferred stock takes priority over common stock if the business files for bankruptcy and is forced to repay its lenders, preferred shareholders receive payment before common shareholders but after bondholders. Because preferred shareholders have priority in repayment upon bankruptcy, they are less risky than common shares. That said, preferred shares typically do not come with any voting rights.
It is generally accepted that buying shares is not haram. This is because the share owners are simply owning a percentage in a business. However, they need to be sure the company in question is not dealing in an un-Islamic manner. Companies like Guinness, Anheuser-Busch InBev (Belgium), Heineken Holding(Netherlands), Asahi Group Holdings (Japan), Kirin Holdings (Japan), Diageo (United Kingdom),Suntory Holdings (China), Pernod Ricard (France) which are alcohol companies and Ladbrokes, GVC Holdings, Kindred Group, Paddy Power Betfair, William Hill, Bet365, Stars Group, Draft Kings etc. which are gambling companies, for example, would not be allowed.
Companies can be categorised form an Islamic perspective into three types:
• Shares from permissible practices – Shipping, manufacturing, clothing, medical equipment, real estate, tools, furniture, supplies and so on are all free from haram practices or transactions, such as cheating and borrowing on the basis of riba (unjustified lending). These companies are also known as ‘clean’ companies.
• Shares based on prohibited practices – Any company that deals in tourism, alcohol, hotels, nightclubs, pornographic materials, riba-based banks, commercial insurance companies, etc, is not permissible. In these circumstances the stock market is haram.
• Shares based on partly haram practices – Whilst the majority of the work may be permissible, some practices are haram. Transportation companies, for example, hold interest based-bank accounts and are often financed by riba-based loans, or individuals through stocks. These types of companies are known as ‘mixed’ companies.
So, what do we do if the company deals in goods and services that do not agree with Islamic law? We do not invest. If we want to avoid any potential conflict the easiest decision is to avoid buying and selling shares in the stock at all. Having said that, there remains some wriggle room. In some cases, we may still be able to trade and remain halal.
Most Scholars are in agreement that if the company only deals in a fraction of un-Islamic goods and services then you may still invest. It is suggested that you simply give away the percentage of the profits that are created by the haram section of the business. So, if 10% of the company’s profits stem from alcohol, you’d donate 10% of your profits to a charity.
The other major area of concern centres around interest. We shouldn’t be trading in interest, so ideally we’d exchange £25 for precisely £25. However, that may not always be feasible. As the stock price varies we inevitably end up paying more or less than face value for the debt/cash.For example, if the company has just £2000 in cash and that makes up the majority of its value, and the stocks trade at £75,000 in total, we’re paying more than the face value.
Fortunately, it is relatively straightforward to stick with just halal shares. Most scholars agree you simply need to avoid companies where a considerable amount of their share value is tied to large piles of debt/cash. Instead, opt for companies where the value is derived from their broader business.
We can actually find Islamic stock screeners that will identify halal stocks for us. However, such software is relatively expensive. Alternatively, most platforms allow us go get a screenshot of the company, highlighting their debt levels and market capitalisation.
For the most part, common sense is our greatest weapon. Avoid heavily leveraged companies that are concerned with the buying and selling of haram goods and services. So, in summary, whether share trading is halal or haram, entirely depends on the companies you opt for and how much profit you retain.
(The author is currently pursuing Masters in Financial Economics from Madras School of Economics, Chennai)
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