Investing can be a powerful tool to grow your wealth and achieve your financial goals. However, the world of investing comes with its own jargon, which can be daunting for newcomers. This guide will break down key investment terms and introduce the concept of Shariah-compliant or halal investing, making it easier for you to navigate your investment journey while staying true to your values.
What is Investing?
Investing involves putting your money into financial assets with the expectation of earning a return. These assets can include stocks, bonds, mutual funds, real estate, and more (not all are halal). The goal is to grow your wealth over time in a halal way, allowing you to meet financial objectives such as retirement, education, or purchasing a home.
Key Investment Terms
1. Index
An index is a benchmark that tracks the performance of a group of stocks representing a specific market or sector. For example, the S&P 500 Index includes 500 of the largest U.S. companies. Indexes help investors gauge market performance and make informed investment decisions. Not all companies in an index are Shariah compliant. Therefore, there are Shariah-compliant indexes that screen out the Non-Compliant companies. For example, the S&P 500 has a Shariah exclusions index of Compliant-only companies in it.
2. ETF (Exchange-Traded Fund)
An ETF is a type of investment fund that holds a collection of assets like stocks, bonds, or commodities. ETFs are traded on stock exchanges, making them easy to buy and sell. They offer diversification and often have lower fees compared to mutual funds. Popular ETFs track indexes and invest in all companies under an index. For example, VOO and SPY are ETFs that track the S&P 500 index. Most ETFs are not Halal because they include a significant percentage of Not Compliant securities in them. However, there are a few ETFs that Shariah certified and invest only in Compliant companies by following Shariah indexes. For example, SPUS and HLAL are two popular ETFs that track Shariah compliant indexes in the US market.
3. Mutual Fund
A mutual fund pools money from many investors to invest in a diversified portfolio of stocks, bonds, or other assets. Managed by professionals, mutual funds provide a simple way to diversify your investments and reduce risk. It is important for the mutual fund to be Shariah certified otherwise it will most likely not be halal for the reasons mentioned above.
4. Bonds
Bonds are debt securities issued by corporations or governments. When you buy a bond, you’re essentially lending money to the issuer in exchange for regular interest payments and the return of the bond’s face value at maturity. Bonds are generally considered safer than stocks in the financial world. And typically financial advisors include a percentage in the portfolio. However, these are not Halal and not permitted in Islam. The Islamic alternative is Sukuk, which are asset-based investments generating a profit over them.
5. Dividend
A dividend is a portion of a company’s earnings distributed to shareholders, typically on a quarterly basis. Companies that pay dividends are usually well-established and generate steady profits.
6. Market Capitalization
Market capitalization (market cap) is the total value of a company’s outstanding shares. It’s calculated by multiplying the stock price by the number of shares. Companies are classified as large, mid, or small cap based on their market cap. Some are even classified as mega cap these days.
7. Asset Allocation
Asset allocation involves dividing your investments among different asset classes (stocks, sukuk, real estate, gold, cash) to balance risk and reward based on your financial goals and risk tolerance.
8. Diversification
Diversification is a strategy to spread investments across various assets to reduce risk. A well-diversified portfolio can help protect against significant losses in any single investment.
9. Stock Exchange
A stock exchange is a marketplace where stocks, bonds, and other securities are bought and sold. Major exchanges include the New York Stock Exchange (NYSE) and NASDAQ.
10. Liquidity
Liquidity refers to how easily an asset can be converted into cash without affecting its price. Stocks of large companies are typically very liquid, while real estate is less liquid.
11. Compounding
Compounding is the process where investment earnings generate more earnings. Over time, compounding can significantly boost your investment growth.
12. Bull Market
A bull market is a period of rising stock prices, often driven by investor optimism and economic growth. Bull markets can last for months or years.
13. Bear Market
A bear market is a period of declining stock prices, usually defined as a drop of 20% or more. Bear markets reflect investor pessimism and can be challenging but also offer buying opportunities for long-term investors.
Shariah-Compliant (Halal) Investing
For many Muslim investors, ensuring their investments align with Islamic principles is crucial. Shariah-compliant investing (also known as halal investing) involves adhering to Islamic law, which prohibits certain activities and types of investments.
Key Principles of Halal Investing:
- Halal Business: Investments must be in businesses that engage in halal activities. Companies involved in alcohol, gambling, tobacco, pork, and certain financial services are typically excluded. Impure income, if any, should be tiny and less than 5% of the company’s total revenues. These must be purified by the halal investor as well.
- Financial Metrics: If a company has interest-based debt or assets, it should be less than 30% of its market cap or 1/3rd of its total assets (depending on different shariah standards).
Common Halal Investment Vehicles:
- Shariah-Compliant Stocks: Stocks of companies that meet Islamic standards. These companies are screened for compliance with Shariah principles. You can use Muslim Xchange to find halal stocks and screen them for Shariah Compliance.
- Islamic ETFs and Mutual Funds: Funds that invest in a diversified portfolio of Shariah-compliant stocks and other assets.
- Sukuk (Islamic alternative to Bonds): Sukuk are Islamic financial certificates similar to bonds but structured to comply with Islamic law. They represent ownership in a tangible asset or business venture.
Conclusion
Understanding key investment terms and the principles of Shariah-compliant investing can empower you to make informed decisions and build a portfolio that aligns with your financial goals and ethical values. Whether you’re new to investing or looking to ensure your investments are halal, this guide provides a solid foundation to help you navigate the world of investing with confidence.
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