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Overpaying for Shariah compliant fund management

I looked at some of the Shariah compliant equity funds available in the UK. What struck me is how expensive some of them are.

Posted 27 May 2024

In their normal lives, most people are reluctant to overpay for things, and often compare prices very carefully. Unfortunately many people behave very differently when buying financial services, and regularly overpay. I suspect the reason is that they find financial services complicated and hard to understand.

I touched on this in my January 2024 column for the magazine "Islamic Finance News" which looked at some of the options available in the UK for Shariah compliant fund management. You can read it below.

Shariah compliant equity investing – a UK perspective

As promised in last month’s column, I am taking a look at the choices available to a UK Shariah compliant investor.

Until now, I have avoided using artificial intelligence tools such as Chat GPT due to the risk of “hallucinations” – false information presented as if it was fact.

However after listening to the co-founder of Perplexity.AI being interviewed on a podcast, I asked it “what Shariah compliant equity investment funds are available in the United Kingdom?” What I liked about the answer was being given links to the sources.

Very briefly, my conclusion is that you can invest in Shariah compliant equity funds through all the major investment platforms in the UK, but the range of funds available is somewhat limited, compared with the profusion of conventional equity funds. That is not surprising, since UK Shariah compliant investors are a tiny fraction of the UK investor population.

As I wrote in December, once you have decided to invest in a Shariah compliant equity fund:

“The next step in the decision tree is the choice between ‘active funds’ where the investment manager selects individual shares based on the manager’s assessment of the value of the company’s business (just as you would do if buying an individual share) and ‘passive funds’ where the fund uses an algorithm to create a portfolio that will match some externally defined index, most commonly a market capitalization weighted index seeking to replicate the entire stock market concerned.”

Decades of experience with conventional equity funds has demonstrated that (after deducting charges) over the long run the overwhelming majority of conventional equity funds fail to beat index funds. While some investment managers do out-perform (for example Warren Buffet, although Berkshire Hathaway is not a “fund”) the problem is how to identify them in advance. (Identifying in hindsight is easy but also useless!)

My view is that if you are going to select an active fund (which inevitably means higher charges than an index fund), the manager needs to have a clearly explained investment methodology which you believe will outperform the index, and you need to be confident that the manager will stick to the methodology, especially during times of under-performance as these will inevitably occur. Otherwise, play safe and go for an index fund.

As someone who has been investing now for about 50 years, I am dismayed by the high-cost funds that some managers are able to promote and sell.

I was particularly struck by the fact-sheet for the Franklin Templeton Shariah Global Equity Fund A (acc) USD dated 31 October 2023. This states that there is a “Maximum Initial Charge” of 5.75% and the “Ongoing Charges Figure” is 1.90%. These charges are much higher than those of the other active Shariah compliant equity funds I looked at.

Some naïve investors think that high charges are a pointer towards a better manager. In most fields, for example law or tax advice, better people do charge more. However, in investing higher charges rarely indicate higher quality.

Since inception on 10 September 2012 this fund has returned only 47.23% in total, while its benchmark, the MSCI AC World Islamic Index-NR (USD), which you can track by investing in an ETF, has returned 108.32%.

Mohammed Amin is an Islamic finance consultant and former tax partner at PwC in the UK.


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