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Does the application of smart beta strategies enhance portfolio performance? The case of Islamic equity investments

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  • Raza, Muhammad Wajid
  • Ashraf, Dawood

Abstract

Traditionally, passive portfolios are structured using an easy to implement market capitalization method albeit highly skewed towards large cap stocks. The introduction of smart beta strategies has allowed passive investors to structure equity portfolios using alternative strategies such as fundamental-weighting, equal-weighting, and low-risk weighting strategies. This paper investigates whether constrained portfolios such as Shariah-compliant equity portfolios (SCEPs) can benefit by adopting smart beta strategies. The sample consists of equities from the USA, Canada, Australia, Europe, Middle East, Indonesia, and Malaysia for the period January 2003 to December 2016. The empirical findings suggest that smart beta SCEPs outperform not only conventional market capitalization weighted portfolios but also SCEPs following a market capitalization-weighted strategy. Higher risk-adjusted returns and lower drawdown as a result of following smart beta strategies highlights the importance of considering smart beta portfolio weighting strategies for passive investors. The supremacy of smart beta strategies indicate the value proposition for investors and fund managers alike. We also found that geographical location affects the performance of smart beta SCEPs; countries with a Muslim majority report higher cardinality and lower drawdowns. The results remained robust with alternative Shariah screening guidelines and empirical estimation methodology.

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  • Raza, Muhammad Wajid & Ashraf, Dawood, 2019. "Does the application of smart beta strategies enhance portfolio performance? The case of Islamic equity investments," International Review of Economics & Finance, Elsevier, vol. 60(C), pages 46-61.
    • Handle: RePEc:eee:reveco:v:60:y:2019:i:c:p:46-61
    DOI: 10.1016/j.iref.2018.12.001
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    2. Ashraf, Dawood & Rizwan, Muhammad Suhail & Ahmad, Ghufran, 2022. "Islamic equity investments and the COVID-19 pandemic," Pacific-Basin Finance Journal, Elsevier, vol. 73(C).
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    4. Reema Monga & Deepti Aggrawal & Jagvinder Singh, 2022. "Exploring new frontiers in indexing strategies: an optimization-based risk-efficient solution," International Journal of System Assurance Engineering and Management, Springer;The Society for Reliability, Engineering Quality and Operations Management (SREQOM),India, and Division of Operation and Maintenance, Lulea University of Technology, Sweden, vol. 13(2), pages 853-865, June.
    5. Pepis, Scott & de Jong, Pieter, 2019. "Effects of Shariah-compliant business practices on long-term financial performance," Pacific-Basin Finance Journal, Elsevier, vol. 53(C), pages 254-267.
    6. Fadillah Mansor & M. Ishaq Bhatti & Shafiqur Rahman & Hung Quang Do, 2020. "The Investment Performance of Ethical Equity Funds in Malaysia," JRFM, MDPI, vol. 13(9), pages 1-14, September.
    7. Delle Foglie, Andrea & Panetta, Ida Claudia, 2020. "Islamic stock market versus conventional: Are islamic investing a ‘Safe Haven’ for investors? A systematic literature review," Pacific-Basin Finance Journal, Elsevier, vol. 64(C).

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    More about this item

    Keywords

    Portfolio construction methods; Capital markets; Shariah investments; Smart beta;
    All these keywords.

    JEL classification:

    • F40 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - General
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • G29 - Financial Economics - - Financial Institutions and Services - - - Other

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