Sharia and ESG investments are converging. It’s about time

Sustainable investing has emerged as one of the biggest trends in finance over the past year as the socioeconomic effects of the pandemic have become apparent. With the poorest and most vulnerable among the hardest hit, with the highest number of infections, the lowest access to healthcare and uneven access to vaccines, investor interest in social justice has risen alongside existing momentum in climate-forward assets.

Worldwide, asset classes that focus on environment, social and governance (ESG) factors – also referred to as sustainable investments – have seen inflows continue to rise over the course of the pandemic. Sustainable funds saw inflows of $45.7 billion, Morningstar data shows, while the overall fund sector saw an outflow of $384.7 billion. In total, global ESG assets under management could exceed $53 trillion by 2025, according to Bloomberg forecasts. That’s up from 37.8 trillion at the end of 2020, assuming a 15 per cent growth rate – or about half the pace of the last five years.

Fund managers note how the Covid-19 crisis is accelerating the trend to ESG investment, at least partially driven by a rebound in civil society with an increase in volunteering, social cohesion, community support and a focus on the public good. The trend chimes with a generational shift in investment: as millennials and Gen Z embark on the investment life cycle, they are bringing their socially conscious values to their portfolio. Studies show that millennial investors are nearly twice as likely as preceding generations to invest for specific environmental or social results.

In a nutshell, sustainable investment – often referred to as impact investing – channels investor capital into companies that are working to combat climate change and ecological degradation while promoting corporate and social responsibility. The terms broadly cover investments that seek to positively impact society and the environment alongside the traditional focus on business performance and profit. Such investing may take into account companies in various sectors, from climate change and renewable energy to health, safety, and community development.

Islamic finance, an industry currently valued at $2.2 trillion annually, aligns closely with this mandate. Sustainable finance was founded on the religious ethical standards and beliefs common to Abrahamic traditions. Faith-based investing is therefore often considered the original impact investing, with both categories sharing many principles, such as social and environmental stewardship. Similarities also extend to the exclusionary investments, with categories such as alcohol, tobacco, gambling, weapons and human trafficking prohibited by both types of asset classes. Since their inception, Islamic banks have been active in building interest in responsible investments and promoting asset classes that align with these values.

Products reflect new convergence

Now the trends for sustainable and sharia-compliant investments are converging as investors follow the courage of their convictions to leverage their funds for social good. Islamic funds have recently begun to integrate ESG principles into their products. At the launch of Schroders’ Islamic Global Equity Fund in December, the asset manager described its investment strategy for the product as a diversified plan that combined sharia law compliance with multi-factor investing and ESG principles. The fund was a response to investor demand and followed a 2019 survey indicating that Islamic investors were seeking sustainable investments in allocating their portfolios. Similarly, Maybank’s Global Sustainable Equity-I Fund, is a sharia-compliant fund that integrates invests in a global sustainable equity model by integrating ESG into its investment process.

Overall, the worldwide Islamic finance industry is expected to clock growth of 10-12 per cent over the next year on the back of growth in the sukuk market and a widescale economic recovery in Islamic countries, according to forecasts by S&P Global Ratings. Data indicates that principled sharia investments have paid off: the sharia-compliant version of the S&P Global Broad Market index has outperformed the conventional variant by more than 10% in 2020.

The popularity of sustainable investments finds resonance in the UAE in a number of ways. Islamic banks in the country have already advised on and issued several green sukuk and continue to offer services on these fronts.

Second, the wealth management arms of sharia-compliant banks offer investors specially focused assets and portfolios focused around ESG results.

Further, companies operating within a sharia framework in the region are well placed to attract capital from ESG-focused investors. As of this year, public joint stock companies listed on the Abu Dhabi Securities Exchange (ADX) or the Dubai Financial Market (DFM) must publish an annual sustainability report covering the impact of their operations on the environment, contributions to social justice and the local economy. The move chimes with global trends for corporate reporting on sustainability and investors within the region can now invest more confidently in sustainable investments that are in line with their post-pandemic values.

Seasoned investors will want to seek out their own sharia-ESG opportunities across asset classes, whether these are equities, bonds, hedge funds, exchange-traded funds, index funds or sustainable real estate investments.

For a more hands-off approach, you could choose a robo-advisor, a platform relying on computer algorithms and advanced software to manage your investment portfolio. But for many investors, nothing replaces human advice. In such cases, it’s worth consulting a specialized advisor, such as a certified financial planner specializing in sustainable investing or asking your bank’s wealth management arm for advice. Several UAE banks have wealth management divisions with specialized advisors that work to build customized portfolios according to each individual’s needs.

However, while many ESG investments may resonate with Islamic investors, not all are sharia-certified and investors are advised to seek professional advice before putting down any money. Whichever route you choose, be aware that all investments carry some form of risk, and it may be possible to lose a portion of your capital.

-- Writer is Head of Wealth Management & Priority Banking at Abu Dhabi Islamic Bank.

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