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Do Shariah (Islamic) Indices Provide a Safer Avenue in Crisis? Empirical Evidence from Dow Jones Indices using Multivariate GARCH-DCC

Listed author(s):
  • Rizvi, Syed Aun
  • Masih, Mansur

Islamic Finance has evolved over the past few decades, and stands at over a trillion dollar today. At the foundations of Islamic finance lay the concept of risk sharing, and the purest form of it in the modern day finance is equity investments. Jurists mostly have a consensus on accepting the current form of joint stock companies as acceptable under the framework of Musharakah. However, the evidence of Islamic investors pursing equity investments in reality is thin. Multitude of reasons are attributed to this low participation, mainly revolving around the lack of empirical proof of Islamic investments being a reliable and steady return alternative. A common perception amongst the investors is that the Islamic equity investment is inherently more risky than the conventional counterpart, and volatile with payoff not matching the risk profile. This study is an attempt to study the volatilities and correlations with the conventional global equity indices utilizing the recent Multivariate GARCH Dynamic Conditional Correlations (MGARCH DCC) method. The study provides positive evidence suggesting a dynamic correlation of Islamic indices with their conventional counterparts. The findings provide an interesting angle to our study, where there is a significant downward trend in the correlations during the crisis era. This provides substance to the argument that Islamic investors would experience lesser downside in economic crisis. This study further dwells into the linkage of Islamic indices with global financial indices to study if the financial sector exclusion from Islamic indices benefits the investors. The findings are positive, with lower correlations in the recent global crisis. The evidence of this paper provides substance to the argument that Islamic indices may be a safer haven during crisis, pointing to a hugely untapped investment avenue for exploration. Islamic finance‘s core philosophy is equity based investments and this study is an humble attempt to empirically substantiate its benefits.

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Paper provided by University Library of Munich, Germany in its series MPRA Paper with number 57701.

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Date of creation: 20 May 2013
Handle: RePEc:pra:mprapa:57701
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  1. Pesaran, Bahram & Pesaran, M. Hashem, 2007. "Modelling Volatilities and Conditional Correlations in Futures Markets with a Multivariate t Distribution," IZA Discussion Papers 2906, Institute for the Study of Labor (IZA).
  2. Hassan, M. Kabir & Girard, Eric, 2010. "Faith-Based Ethical Investing: The Case Of Dow Jones Islamic Indexes," Islamic Economic Studies, The Islamic Research and Training Institute (IRTI), vol. 17, pages 1-31.
  3. Hussein, Khaled A., 2004. "Ethical Investment: Empirical Evidence From Ftse Islamic Index," Islamic Economic Studies, The Islamic Research and Training Institute (IRTI), vol. 12, pages 22-40.
  4. Lanza, Alessandro & Manera, Matteo & McAleer, Michael, 2006. "Modeling dynamic conditional correlations in WTI oil forward and futures returns," Finance Research Letters, Elsevier, vol. 3(2), pages 114-132, June.
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