Best Guide for Stock trading & differentiating halal & haram as per Islam

My Dear Brother and Sisters,Assalamu'alaikum warahmatullahi wabarakatuh السَّلاَمُ عَلَيْكُمْ وَرَحْمَةُ اللهِ وَبَرَكَاتُهُ May the peace, mercy, and blessings of Allah be with you.

Yes, it is halal in Islam. But you cannot buy shares of those companies which deal in interest. You also cannot buy shares of film making companies, tobacco product companies, winemaking companies, etc. because these things are haram in Islam. Before purchasing any share you have to see a company in which it is dealing with. There are some other forms of trading in the share market that resembles gambling, so you cannot do such types of trading. Further, futures and options trading is not according to Islamic rule.

Share Trading and Stock Market in Islam

There is a difference between shareholders and stockholders. This is important to classify if it is haraam or halaal. A stock is a written document stating the amount of a loan given by the bearer on a specified date in return for specified interest or favor.

A share is a partner’s portion of the capital of a corporation.

A share represents a stake in a company, meaning that the shareholder is a partner, whereas a stock represents a debt owed by the company, meaning that the stockholder is a lender.

Hence the shareholder only earns profits when the company makes a profit, and have to bear some part of loss depending on the shares he has if the company loses some money because he is like one part of the company.

The stockholder, on the other hand, does not bear any of the company’s losses because he is not a partner in the company, rather he is simply a lender, who lends money in return for benefits agreed upon whether the company makes a profit or makes losses. So the stockholder earns guaranteed annual interest whether the company makes a profit or not.

So dealing in stocks is haraam according to shari'a because it is a loan in return for agreed-upon interest, and this is riba (interest) which Allaah has forbidden and warned against, as He says (interpretation of the meaning):

“O you who believe! Fear Allaah and give up what remains (due to you) from Ribaa (from now onward) if you are (really) believers.

279. And if you do not do it, then take a notice of war from Allaah and His Messenger but if you repent, you shall have your capital sums. Deal not unjustly (by asking more than your capital sums), and you shall not be dealt with unjustly (by receiving less than your capital sums)”.

When it comes to shares, it depends upon the company you own shares from. The company should not deal with haraam or forbidden things in Islam directly or indirectly. Otherwise, it is halaal.

In order to remain in the mainstream of the economy and get equitable investment opportunity, Equity stock markets (The Islamic way) provides the most cost-effective investment solution for Muslims. Equity markets have proved that they are not only the most effective, transparent, liquid and conducive to small and big size investors as a means of investment, but history has also proved that it outperforms all other asset classes where the return on investments is the parameter considered. In the long term equity market always goes up. Hence Muslims must invest in the equity market.

On the onset of investment in equity markets is Islamically a permissible activity since it is based on Musharaka (Partnership) and the profit is earned with a risk of loss. However, there are some issues for Muslims to invest in equity markets (explained later).With Ulemas (Islamic scholar) guidance and approval it is now possible to overcome this, and in fact investment in equity markets the Islamic way is probably the best option available for the Muslims, that is not only regulated by the government body SEBI but also now approved by the Islamic Scholar.

Now first we look into the inherent advantage investments in equities have over other forms of structured investments.
 

1. Fixed Interest (Riba) Based Investments:

Fixed interest (Riba) based investments like the saving Bank deposit, Bank FDR; Postal savings, Debentures, Bonds etc are prohibited in Islam. Allah says in the Quran, ‘O those who believe, do not eat Riba (usury or interest) multiplied many times. And fear Allah, so that you may be successful. ’ (Al-Imran verse 130) Islam has discouraged fixed saving and withholding wealth but it has encouraged Business & Investments. ‘Profit should be earned only with the risk of losses, in equity investment the profit and loss are shared in proportion to the investments made. Thus, investment in the equity market is in accordance to the Quran and Hadeeth injunctions.
 

2.  Investment in Real Estate

Investment in Real estate/ properties, although permissible in Islam but it has certain disadvantages over equities. First, because of the unit size, it is not possible for every individual to buy property since the cost involved is huge whereas, one can invest in equity for an amount as low as Rs. One thousand and there are no upper limits. Secondly, the property is subject to a lot of legal paperwork and one has to go through a very cumbersome procedure to acquire properties. However, it is very easy to buy and sell shares by being a member of a SEBI registered broker. So buying and selling shares is as easy as snapping your fingers. Finally, there is often a threat of encroachment of the property which involves costly litigation. Equity shares have a big advantage here since the stocks purchased get directly deposited in the investor's Demat account where it is in the safe custody and one can sell them whenever and as much as he wants to sell. If returns on investments as a parameter considered than historically it’s proved that returns earned in equity investments are superior to all the asset classes including the real estate.
 

3. Investments in Conventional Mutual Funds

Investments in Conventional Mutual Funds is not permissible from the viewpoint that these mutual funds are not mandated to follow Shariah norms thus they do invest in stocks of  ‘Haram’ or prohibited businesses like liquor, banks, hotels, entertainment, casino, etc. that is strictly prohibited in Islam, hence profit earned from these mutual funds is impure and tainted. Investment done by mutual funds does not take in to account the companies with huge interest-based debt and high interest earning. Over 45 % of the Indian equity market is not shariah compliant. Apart from this Mutual funds carry out days trading and derivatives trading which is not permitted in Islamic trading, hence conventional Mutual Funds are not shariah-compliant instruments for Muslims to invest. However, Muslims can invest in Shariah-compliant Mutual fund / Shariah compliant PMS / Shariah ETFs.
 

Advantage of Stock Trading:

One more point that goes in the favor of equity stock markets is the Capital gains tax advantage. There is no capital gains tax for long term investors i.e. if the investment is held for more than one year. And for the short term investments for less than a year, investors have to pay only 15 % percent tax on its gains. Muslims must take advantage of this benefit and invest in equities that would help them create wealth in the long term in the Shariah way.

The concerning part in the equities investment is the market risk and volatility. In order to overcome this and to optimize Halal return on investments, one needs to take guidance from Shariah-based Equity Research advisors and Fund managers who can guide and advise them on what to buy and most importantly when to buy and sell. If this part is taken care of diligently, then equity investment is the best option for the Muslims.
  

ROLE OF SHARIAH SCHOLARS:

Islam makes ‘Lawful Earning’ (Halal) mandatory, and in Islam, the spiritual and secular aspects are one and the same. This implies that Islam emphasizes the need to make a living by means that are permissible under it.
After many years of debate and discussions and looking into the need for Muslims to invest in equity markets as an alternative to bank and insurance Islamic scholars have permitted Muslims to invest in equity markets with certain strict stipulated conditions. With the help of computer technology and with so much of the information available, now it is possible to screen the companies on Shariah norms,

Shariah scholars have imposed investment restriction and conditions and only upon fulfilling these conditions Muslims can invest in equity markets the Halal way.

The conditions laid down are as follows:
 

11. Restriction based on the type of Securities: Investment should only be done in Shariah-compliant stocks as defined. A security trading in derivatives and day trading in stocks is strictly not permitted. Short selling is prohibited. Securities should only be sold after having their complete possession.

22. Restriction on Business Activity: No investment shall be made in stocks of the companies whose business activity is Prohibited (Haram)

a.     Conventional interest-based banks and other financial institutions like banks, NBFC, Insurance companies, stockbrokers, etc.

b.    Alcoholic beverages like wine and other liquor-related products and services.

c.     Pork and non- Halal food products

d.    Entertainment includes film production companies, cinema, Cable TV, music etc.

33. Restriction based on financial ratios: Apart from the above restriction on business activity, Islamic scholars from different part of the world have set certain financial criteria based on the need. In India Islamic Investment & Finance Board (IIFB) comprising of eminent scholars have approved the following financial criteria:

a.     An interest-bearing debt of the companies should not exceed 33 percent of its twelve months average market capitalization.

b.    Cash plus interest-bearing securities of the companies should not exceed 33 percent of its twelve months average market capitalization.

c.     Trade receivable and other debtors of the companies to its twelve months average market capitalization should not exceed 33 percent.

d.    Interest Income plus prohibited activity (impure) income of the companies to the company’s total income should not exceed 5 percent

44. Shariah Screening Process: Shariah screening is conducted for all the listed equities as prescribed and mandated by Shariah scholars. This process is done every quarterly. Those stocks that successfully pass the Shariah screens are thus called the Shariah complaint universe. This process is done under the supervisor and audit of the Shariah committee of Aalims and muftis.

55. Purification of Impure Income (purging): The income thus derived from trading and investments in shares do have some portion of impure or prohibited income. This income can be in the form of interest received by the companies or some prohibited activity carried on by the company that earns impure or tainted income needs to be cleaned or purged. This is a compulsory process. The impure income consequently cleansed should be given as charity.

Rest Allah Knows the Best!!

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Allah Hafiz