Growing awareness of global environmental, social and governance (ESG) issues has led to a paradigm shift in the investment industry. Investors are now more aware of the social and environmental impact of their portfolios. At the same time, Shariah-compliant investing, which adheres to Islamic principles, has gained momentum as an ethical investment option.

The interesting overlap between ESG and Shariah investing is becoming more evident as both approaches prioritise ethical and sustainable practices. This article delves into the synergies between these two investment strategies and explores how they can help shape a sustainable financial future.

The foundations of ESG and Shariah investing

ESG Investing
ESG investing refers to the consideration of environmental, social, and governance factors in investment decision-making. The main objectives of ESG investing are to: 

• Minimise negative environmental impact 
• Promote social wellbeing 
• Encourage strong corporate governance 

ESG investing aims to create long-term value for investors and society by integrating these factors into investment analysis and portfolio construction.

As Warren Buffett once said, “In the long run, investing is not about markets at all. Investing is about enjoying the returns earned by businesses.”

This quote highlights the importance of focusing on the underlying business and its practices, which is the core principle of both ESG and Shariah investing.

Shariah investing
Shariah investing follows the principles of Islamic finance, which are based on the teachings of the Quran and the Sunnah.

The primary objectives of Shariah investing are to: 

• Ensure investments are in line with Islamic ethical principles 
• Promote risk-sharing and fairness among investors 
• Prohibit interest (riba) and speculation (gharar) 

Shariah-compliant investing avoids investments in industries such as alcohol, tobacco, gambling, and conventional financial services.

The interesting overlap between ESG and Shariah investing

Shared ethical values
The interesting overlap between ESG and Shariah investing lies in their shared ethical values. Both approaches emphasise the importance of ethical and sustainable practices in investments, focusing on creating long-term value for stakeholders.

A study by the International Finance Corporation (IFC) found that, in general, Shariah-compliant companies tend to have better ESG performance than their conventional counterparts. Similarly, another study shows that Shariah-compliant governance has a beneficial role to achieve ESG performance.

This suggests that there is indeed an interesting overlap between ESG and Shariah investing, as both prioritise ethical and sustainable practices.

Environmental responsibility
Both ESG and Shariah investing prioritise environmental stewardship. They promote investments in companies that demonstrate a commitment to reducing their carbon footprint, conserving resources, and protecting the environment.

Social equity
Social responsibility is a common theme in both ESG and Shariah investing. Both approaches support investments in companies that promote fair labor practices, gender equality, and community development.

Governance and ethical conduct
ESG and Shariah investing both emphasise the importance of strong corporate governance and ethical conduct. Investors following these strategies seek companies that have transparent decision-making processes, robust risk management practices, and strict adherence to ethical standards.

Complementing each other for a more sustainable investment approach
The interesting overlap between ESG and Shariah investing can lead to a more comprehensive and sustainable investment strategy.

By combining the strengths of both approaches, investors can effectively:

• Diversify their portfolios 
• Reduce risk through ethical and responsible investments 
• Capture opportunities in the growing market for sustainable and ethical investments 
• Align their investments with their personal values and beliefs

As Larry Fink, CEO of BlackRock, stated, “Sustainable investing is not just about doing good; it is about doing well by doing good.” This quote emphasises the potential for sustainable investments, such as ESG and Shariah-compliant investments, to generate competitive returns while creating a positive impact on society and the environment.

FAQs

• How can investors integrate both ESG and Shariah principles into their investment strategies?
  Investors can integrate ESG and Shariah principles by focusing on companies that adhere to both ESG criteria and Shariah-compliant practices. This can be achieved by using ESG and Shariah screening tools or by investing in funds that combine these approaches.

• Are ESG and Shariah investments expected to deliver competitive returns?
  Studies have shown that ESG and Shariah investments can generate competitive returns compared to traditional investments. A meta-analysis of more than 2,000 empirical studies conducted by Friede, Busch, and Bassen (2015) revealed that the majority of studies found a positive relationship between ESG and financial performance. This supports the claim that investments with strong ESG characteristics can generate competitive returns.

• What challenges do investors face when integrating ESG and Shariah investing principles?
  Some challenges investors face when integrating ESG and Shariah investing principles include:

  1. Limited availability of comprehensive and reliable ESG and Shariah data 

  2. Varying interpretations of ESG and Shariah guidelines, leading to inconsistencies in screening and evaluation 

  3. Potential trade-offs between ESG and Shariah objectives in specific investments

• How can regulators and policymakers support the growth of ESG and Shariah investing?

• Regulators and policymakers can support the growth of ESG and Shariah investing by: 

  1. Encouraging transparency and standardisation of ESG and Shariah reporting 

  2. Providing incentives for companies and investors to adopt sustainable and ethical investment practices 

  3. Promoting the development of ESG and Shariah-compliant financial products and services

Conclusion
The interesting overlap between ESG and Shariah investing presents a unique opportunity for investors to align their financial goals with their ethical values.

By understanding the synergies between these two approaches, investors can create diversified and sustainable portfolios that generate long-term value while addressing pressing global challenges.

With the support of regulators and policymakers, the integration of ESG and Shariah investing can contribute to a more sustainable and ethical financial landscape, ultimately benefiting the global economy and society as a whole.

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