Performance and Risks: Islamic Indices and Compared to Conventional Indices

Transcription

1. Asian Journal of Economics and Empirical Research Vol . 8, No. 1, 17-26, 2021 ISSN(E) 2409-2622 / ISSN(P) 2518-010X DOI: 10.20448/journal.501.2021.81.17.26 © 2021 by the authors; licensee Asian Online Journal Publishing Group Performance and Risks: Islamic Indices and Compared to Conventional Indices Jamal Agouram1 Jamaa Anoualigh2 Lhoucine Ben Hssain3 Ghizlane Lakhnati4 1,3,4 ( Corresponding Author) LISAD-ENSA, Ibn zohr University, Agadir, Morocco. Faculty of Law, Economics and Social Sciences, Ibn zohr University, Agadir, Morocco. 2 Abstract Islamic finance is very successful in the global market, and leading traditional index providers have expanded their range and are now offering a multitude of Islamic indices to facilitate the rapid development of Islamic finance, especially Sharia-compliant funds. We will evaluate and analyze both the Islamic and non-Islamic indices and their volatility, considering Islamic finance's rise in popularity. The first purpose of this research is to establish a comparison and then analyze the results of the performance of the Dow Jones World Index (DJW) and its Islamic counterparts. The analysis of the outcomes will be in terms of performance measures. On the basis of the total risk, we will then compare the Dow Jones World Index and its Islamic counterparts. This risk would usually be captured by both Value-at-Risk and Conditional Value-at-Risk. The purpose of this paper is to demonstrate whether Islamic indices are higher than the conventional index and whether the overall risk for Islamic indices is lower than for the conventional index. Keywords: Conditional value-at-risk, Dow Jones world index (DJW), GARCH (1,1), Islamic investment, Performance, Value-at-risk. JEL Classification: F37. Citation | Jamal Agouram; Jamaa Anoualigh; Lhoucine Ben Hssain; Ghizlane Lakhnati (2021). Performance and Risks: Islamic Indices and Compared to Conventional Indices. Asian Journal of Economics and Empirical Research, 8(1): 17-26. History: Received: 26 January 2021 Revised: 2 March 2021 Accepted: 29 March 2021 Published: 19 April 2021 Licensed: This work is licensed under a Creative Commons Attribution 3.0 License Publisher: Asian Online Journal Publishing Group Acknowledgement: All authors contributed to the conception and design of the study. Funding: This study received no specific financial support. Competing Interests: The authors declare that they have no conflict of interests. Transparency: The authors confirm that the manuscript is an honest, accurate, and transparent account of the study was reported; that no vital features of the study have been omitted; and that any discrepancies from the study as planned have been explained. Ethical: This study follows all ethical practices during writing. Contents 1. Introduction ...................................................................................................................................................................................... 18 2. Literature Review ............................................................................................................................................................................ 18 3. Data and Methodology ................................................................................................................................................................... 19 4. Empirical Results and Discussion ................................................................................................................................................ 21 5. Conclusion ......................................................................................................................................................................................... 24 References .............................................................................................................................................................................................. 24 © 2021 by the authors; licensee Asian Online Journal Publishing Group 17
2. Asian Journal of Economics and Empirical Research , 2021, 8(1): 17-26 Contribution of this paper to the literature This study contributes to the existing literature on the comparison of performance and risk of Islamic and conventional indices by combining the two aspects (performance and risk) using measures of performance (Sharpe ratio, Treynor ratio and Jensen alpha) and risk (VaR and CVaR). 1. Introduction Islamic finance has had great success in the global market. It has provided a wide range of Sharia-compliant indices to enable the accelerated advancement of Sharia-compliant funds and Islamic finance. Following this success, Muslim countries have been proposing a financial model based on Sharia, the law of the Koran. In addition to adhering to the values and principles of Islamic finance, exciting profit prospectsare now being offered. At the end of 2009, the rating agency Moody's had estimated the size of the Islamic finance market at $950 billion, there having been a rise of about 20% each year during the past three years. Presently, there have been approximately three hundred Islamic financial institutions internationally, including more than seventy five nations. Within a decade, Islamic finance could capture 50% of the savings made by 1.6 billion Muslims worldwide. In fact, the Islamic financial system stands out as an alternative model of social responsibility that is more relevant and more profound than the model proposed by classical economic theories according to several scholars such as Chapra (2016); Siddiqi (2004); Siddiqi (2014); Khan (1997); Ahmed (2007) and Visser (2019). This remarkable growth aims to satisfy the rising demand from the Muslim community for ethical and socially responsible investment. Indeed, the Islamic financial system feeds on the moral and religious foundations derived from the sacred book (the Koran) and the principles of Sharia law. It is based on the following five principles: (i) forbidding of interest (Riba) and usury, (ii) take part of the profits and losses (Musharakah), (iii) forbidding of uncertainty of sales (Gharar) and speculation (Mayssir); (iv) the obligation to match financial income to actual assets; and (v) the prohibition of illegal products and sectors (Haram) (Elbousty & Oubdi, 2017). Faced with this surge in Islamic finance, we will assess the ability of Islamic indices to cope with financial crises and we will evaluate whether the Islamic indices are more powerful in their returns, and whether the Islamic indices are less unstable. The key goal is to compare and evaluate the outcomes achieved by the Dow Jones World Index (DJW) and their Islamic equivalents. Initially, our comparison is made using measures of performance to see if the performance of Islamic indices indexes surpasses that of the conventional index (Dow Jones case). Next, we will compare the Dow Jones World Index and its Islamic counterparts based on cumulative risk as measured by Conditional Value-at-Risk (CVaR) and Value-at-Risk (VaR) to judge whether Islamic indices are less risk-prone than the Dow Jones World Index (DJW). 2. Literature Review Islamic entrepreneurship1 cannot be approached without reference to Islamic law (Sharia). This law, stemming from the Muslim religion, is linked to the faith, customs, legislation, and economy of the Muslim UMA (community) and guides morality (Abdullah & Mikail, 2013; Almarri & Meewella, 2015; Anggadwita, Ramadani, Alamanda, Ratten, & Hashani, 2017; Carneiro-da-Cunha, Santos, Souza, Alssabak, & Macau, 2015; Muhammad, Sairally, & Habib, 2015; Zulkifli & Saripuddin, 2015). In fact, all economic activities carried out in Islam are subject to the issue of lawful (Halal) and unlawful (Haram), and therefore depends on the moral and social values that every Muslim must follow in its various activities (Al Rahahleh, Bhatti, & Misman, 2019; Khatkhatay & Nisar, 2007; Naveed, Khawaja, & Maroof, 2020). This means that the accumulation of wealth should be a secondary priority because service to other human beings is a main priority and contributes to spiritual wellbeing (Abdullah, Kedah, & Anwar, 2015; Ashraf, 2019; Ghoul, 2015). Salma (2013) stressed through his study of a sample of 46 institutions which offer Islamic financial services (IIFS), that these must be Shari'a compliant in addition to traditional responsibilities (organizational, economic, legal and ethical) In accordance with the purpose of the Shari'a of fostering society's health. Consequently, an Islamic business owner has to invest in commercial activities in line with Muslim Act standards (Anggadwita et al., 2017; Gümüsay, 2015; Hamid & Sa'ari, 2011; Ramadani, Dana, Ratten, & Tahiri, 2015). In addition, Rehan, Block, and Fisch (2019) demonstrated a positive impact on business intentions through Islamic principles and Islamic practices, while Ramadani et al. (2015); Ghoul (2015) highlighted the fact the Islam inspires Muslims to do business and trade. Anggadwita et al. (2017) noted that the Muslim belief inspires its followers to be entrepreneurial, creative and dynamic, and that entrepreneurship in Islam is based on cooperation. Gray, Foster, and Howard (2006) “explain that an Islamic entrepreneur should be a diligent entrepreneur with management expertise and skills. In Islam, work is considered a religious activity within a society because it could help the community by enhancing people’s feeling of wellbeing” (Anggadwita et al., 2017; Ghoul, 2015; Ramadani et al., 2015; Ratten et al., 2017). Anggadwita, Mulyaningsih, Ramadani, and Arwiyah (2015) also “stress that female entrepreneurship must be facilitated, in particular, by an appropriate Islamic education, to take advantage of the opportunities offered by Allah, because this has a positive impact on improving and supporting the economy of the family household, women's independence and self-realisation, and therefore support for the national economy”. Over the past three decades, Shariaa finance experienced the most rapid and unusual developments in the recent history of global financial services, and has moved from a niche position in the global financial system to one of the most dynamic and promising places (Ahmed, 2002; Khan & Bhatti, 2008). Currently, Islamic financial institutions are expanding internationally and are not exclusive to the Muslim world, but are starting to expand into Europe and the United States to capture some of the abundant liquidity from the Persian Gulf regions induced by the sharp rise in oil prices (Ghoul, 2011). In contrast to traditional stock markets, the Islamic stock market is one in which Sharia-compliant stocks are traded (Hashim, Habib, Isaacs, & Gadhoum, 2017). The main difference between these two modes of financing is 1Ratten, Ramadani, Dana, and Gerguri-Rashiti (2017) defines Islamic entrepreneurship as “discovery, evaluation and exploitation of opportunities utilising an Islamic belief system in the business environment.” © 2021 by the authors; licensee Asian Online Journal Publishing Group 18
3. Asian Journal of Economics and Empirical Research , 2021, 8(1): 17-26 that Islamic investment is based on fundamental Islamic principles prohibiting speculation (Maysir), interest, excessive uncertainty, investments in industries deemed "unethical" and risk and return sharing (Zahari, Kamidjantono, & Idham, 2009). Islamic indices following Sharia principles are subject to different criteria for selecting liquidity and financial ratios (El Alaoui, Bacha, Masih, & Asutay, 2016; Hakim & Rashidian, 2002). For this reason, Islamic finance has attracted much attention in recent decades (Ahmed, 2019; Hkiri, Hammoudeh, Aloui, & Yarovaya, 2017; Jawadi, Jawadi, & Louhichi, 2014; Medhioub & Chaffai, 2016). However, profitability and risk are essential tools for measuring the attractiveness of an investment. It is also a critical determinant of performance that investors focus on during financial crises. Investments in classical and Islamic indices have been profitable, but the profits of Islamic banks are much higher than those of conventional banks (Chowdhury, 2015). Several researchers have conducted studies on the financial performance of Islamic indices and conventional indices. However, in recent years, several researchers have conducted empirical studies on the performance and risk of Islamic stock market indices. Some of these studies, such as that of Atta (2000) who studied the DJIMI (Dow Jones Islamic Market Index), concluded that the Islamic stock index outperforms its conventional counterpart as well as generating a higher return than the conventional index. Ahmad and Ibrahim (2002) “contrasted the exhibition of the KLSI (Kuala Lumpur Syariah Index) andthe presentation of the KLCI(Kuala Lumpur Composite Index), utilising the Sharpe ratio, the Treynor Index, the balanced Jensen Index, and the t-test for the period from 1999 until 2002. The outcomes showed that the KLSI yield was lower than that of the KLCI, while, regarding risk, the KLCI was riskier than the KLSI over the period”. This last finding was shared by Hussein (2004) “who made a correlation of the presentation of the FTSE Global Islamic Index and the FTSE All-World Index. The presentation results were supportive of the Islamic index which was higher than its conventional counterpart”. Likewise, Hussein and Omran (2005) “investigated the performance of the Dow Jones Islamic Market Index (DJIMI). They observed that Islamic indices beat their regular counterparts in positively trending markets, but were less fruitful in bear markets”. Yusof (2007) concentrated their investigation on the Islamic index in Malaysia. Their outcomes show a higher instability of Islamic indices compared with their conventional counterparts. At the same time, Al-Zoubi and Maghyereh (2007) analysed the relative risk by contrasting the risk of the DJ Islamic list with that of the DJ World list over the period from 1996 to 2005. The outcomes show that the degree of risk of the Islamic index is essentially lower than the rest of the market. In addition, The Kuala Lumpur Siariah Index (KLSI) and the Kuala Lumpur Composite Index (KLSI) were studied by Albaity and Ahmad (2008). The findings showed that Islamic metrics were less effective than traditional. Hassan and Girard (2010) studied the performance of the Dow Jones' Islamic Index and conventional index series and concluded that the results were not statistically different. Mehmood (2016) studied the performance in eight countries of Islamic and conventional indices and found that, over the period as a whole, conventional stock indices outperformed Islamic indices. However, Islamic stock markets outperformed their peers during the global financial crisis period, with both adjusted and unadjusted performance measures. In addition, El Alaoui et al. (2016) found, in seven European countries with a sample of 689 firms for the period from the second quarter of 2008 to the first quarter of 2013, that Sharia-compliant stocks have a lower market risk than conventional stocks. Elbousty and Oubdi (2017) compared the returns and volatility of Islamic stock indices to their conventional counterparts for developed and emerging countries from 2002 to 2016. Islamic indices outperform conventional indices in 80 percent of developed countries, and Islamic indices outperform conventional indices in 14 emerging market countries, according to their findings. Rejeb and Arfaoui (2019) attempted to confirm whether Islamic market indices outperform conventional market indices, in both their representational efficiency and degree of risk, at the time of recent financial stress using a GARCH model (1,1). Their experimental findings demonstrate the fact the Islamic market indices exhibit high volatility and cannot avoid the financial crisis than their conventional counterparts. On the basis of the previously discussed review of the literature, we point out that in spite of the abundance of past academic work evaluating the comparison of the performance and risks of Islamic and conventional indices, the findings differ greatly and are not conclusive as to the superiority of one over the other to date. Following the similar spirit of research, this work tries to combine the two aspects (performance and risk) using measures of performance (Sharpe ratio, Treynor ratio and Jensen alpha) and risk (VaR and CVaR). 3. Data and Methodology 3.1. Data This database contains financial information in both real-time and in a historical way. It allows us to obtain the daily prices of the various indices analysed during the period from April 1, 2010 to April 15, 2020. We will be working with the Dow Jones Index family, since access to data for other indices is limited, especially for Islamic indices. For the analysis, the global indices we consider are the Dow Jones World Index and its Islamic counterparts: the Dow Jones Islamic Market US Mid-Cap Index (IMUSM), the Dow Jones Islamic Market World (DJIM), the Islamic Market Asia / Pacific Index (DJIAP), the Dow Jones Islamic Market World Emerging Markets (DJIEMG), the Dow Jones Islamic Market Malaysia Index (DJMY25), and the Dow Jones Islamic Market Turkey Index (DJIMTR). The Dow Jones Islamic Market World Index is the equivalent index to the DJW, but it satisfies the principles of Sharia. Each company included in the index must, therefore, comply with several requirements, including the type of product offered, economic activity, and the level of debt. © 2021 by the authors; licensee Asian Online Journal Publishing Group 19
4. Asian Journal of Economics and Empirical Research, 2021, 8(1): 17-26 3.2. Methodology There is a difference in the performance and risks of Islamic indices and their traditional equivalents, as we noted during the literature review of studies carried out on this topic. We chose to use hypothetical-deductive quantitative analysis, which is one of the models used for scientific reasoning and research, based on this observation (Tariq, 2015). In the context of this work, this approach is used to show whether the output of Islamic indices exceeds that of traditional indices and to demonstrate whether the overall risk of Islamic indices is lower than that of conventional indices. However, the holistic-inductive qualitative approach is an alternative to validate these methods that have arisen in exploratory research to have a global understanding of investors and their behaviours (Dana & Dana, 2005). To complement the numerous quantitative studies in management and, more specifically, in entrepreneurship, Dana and Dana (2005) promote more qualitative research with inductive holistic conceptions to generate new hypotheses to help formulate better policies for the future. This research is exploratory in nature and descriptive. First, in order to analyse and compare the performance of Islamic indices with their conventional equivalents, we use financial performance measures (the Sharpe ratio, the Treynor ratio and Jensen's alpha). In the second step, we will use Value-at-Risk (VaR) and Conditional Value-at-Risk (CVR) to compare the total risk of such indices (CVaR). 3.3. Performance Measures To assess the performance of the Dow Jones World Index and its Islamic counterparts, this study looks at the return and instability qualities of each index alongside the risk-adjusted return. To estimate the risk-adjusted performance of the DJW and its Islamic counterparts, we use the Agouram and Lakhnati (2016) methodology to establish a ranking of the different indices. Performance measures that we will use to compare our indices are: • The Sharpe ratio: It calculates the excess return of the portfolio compared to the risk-free investment, but only relates to the volatility that negatively affects the asset. E(R p ) − rf (1) Sp = σ(Rp ) WhereE(R p ) is the expected portfolio return,σ(Rp ) is the portfolio standard deviation and rf is the risk-free return (in Equation 1). • Treynor ratio: This indicates the risk premium per unit of systematic risk. The Treynor ratio is calculated as: E(R p ) − rf (2) Tp = βp Whereβp , in Equation 2, is the beta of the portfolio. • Jensen’s alpha: To see exactly the way the formula of the Jensen’s alpha works, let's look at the CAPM formula (in Equation 3): E(R p ) = rf + βp (E(R m ) − rf ) + α (3) The Jensen Alpha value is as follows: α = E(R p )−(rf + βp (E(R m ) − rf ) (4) whereE(R m ) is the expected market return (in Equation 4). To make a comparison over the entire period chosen, we calculated performance measures for each month, using the Borda-Kendall (BK) method. The BK technique has been used to establish a portfolio classification. The strategy of the BK provides a primary location a label of 1, the second position a label of 2, etc. With this simple equation, the rating scale (Zi) that each portfolio collects can be obtained: Zi = ∑ p i=1 j vij (5) where j is the rank andvij is the vote, each investment is ranked jth ranking place. The best possible asset allocation would be the one with the lowest overall score (in Equation 5). 3.3.1. Risk Measures In order to compare indices2, we will use Value-at-Risk (VaR), taking into account the essential characteristics of asset returns. (i.e., the pattern of profits of the group in high and low unpredictability bundles with a non-typical circulation of profits, overwhelming tails, and a negative predisposition). In the VaR forecast for each index, we will contain the following elements: • Initially, we will use the GARCH model (1,1) to analyze the VaR's sensitivity to the yield distribution's characteristics (the variance that varies over time) by assuming that the portfolio's yield follows the normal distribution. • Secondly, we will numerically calculate the VaR of each portfolio based on Cornish Fisher expansion (CF) and Johnson's distribution using Moments, to adjust for long queues and skewness in VaR predictions. • Lastly, the Conditional Value-at-Risk (CVaR) will be used to compare the indices because the results are almost similar for VaR. The CVaR is able to take a much better appreciation of the queue risk. The VaR associated with risk X is given by Equation 6: