Risk and Performance Assessment
What this domain tests
This domain tests whether you can identify the risks that are specific to Shariah portfolios and measure returns on the correct, after-purification basis.
Risk categories
- Market, credit and liquidity risk apply as in any portfolio, but sukuk liquidity can be thinner.
- Shariah non-compliance risk: income from a holding becomes impermissible after a ratio breach, a fatwa changes, or a purification calculation is wrong. It carries financial cost and reputational cost.
- Rate-of-return risk replaces interest-rate risk for sukuk and Islamic deposits; pricing references may still move with conventional rates.
- Displaced commercial risk applies to Islamic banks that forgo profit to stay competitive.
- Operational and governance risk covers Shariah review failures and weak documentation.
Performance measurement
Report gross return, purification, and net return to the client. Use a Shariah benchmark. Attribution must reflect the different sector weights of Islamic indices, so a technology overweight may explain relative performance rather than stock selection skill.
Worked example
A fund returns 9.0% gross. Non-compliant income is 3% of total income, so purification is 9.0% × 3% = 0.27%. Net return is 8.73%. If the Shariah index returned 8.2%, the fund outperformed by 53 basis points on a net basis. Comparing 9.0% with a conventional index that includes banks would overstate or understate skill depending on the rate cycle.
Traps that cost marks
- Quoting gross return to a client who must purify.
- Treating Shariah non-compliance as purely reputational.
- Using a conventional benchmark and then explaining away the difference.
- Forgetting that sukuk prices can fall when profit rates rise.