Forecasting Islamic equity indices alpha

Abstract

Purpose

This paper aims to investigate whether Islamic and conventional equity indices offer some alpha. These indices are expected to offer no alpha being value-weighted, passive and unmanaged.

Design/methodology/approach

This paper used monthly data from 1996 to 2016 of four Dow Jones (DJ) and one financial times stock exchange (FTSE) Islamic equity indices and five conventional Morgan Stanley Capital International (MSCI) equity indices. This study used a simple ordinary least square (OLS) rolling window regressions to generate the alphas and risk loadings when adjusting for prominent pricing factor models.

Findings

The findings from OLS regressions suggest that DJ Islamic indices of Japan, Europe and World generate significant alphas, whereas, MSCI conventional indices of Asia/Pacific, USA and World generate significant alpha when risk-adjusted for pricing factor models. However, in 36-month rolling window regressions, all Islamic indices generate significant alpha and factor loading. The magnitude of alpha and factor loading changes over time.

Research limitations/implications

The finding shows that the Shari’ah-compliant investment fund’s alpha must be adjusted with the respective benchmark index alpha to measure the fund manager’s skill performance quantitatively.

Originality/value

To the best of the author’s knowledge, this is the first study that investigates and compares the Islamic, as well as conventional indices for abnormal returns, which are adjusted for both Fama–French five and q-theory-based four assets pricing risk factors and as a benchmark for Shari’ah-compliant fund’s performance.

Citation

Anjum, N. and Rajput, S.K.O. (2021), "Forecasting Islamic equity indices alpha", International Journal of Islamic and Middle Eastern Finance and Management, Vol. 14 No. 1, pp. 183-203. https://doi.org/10.1108/IMEFM-02-2019-0068