A Shariah-compliant portfolio selection model

Abstract

The paper aims to develop a Shariah-compliant optimization model for portfolio selection in an Islamic security market. The security return is considered stochastic and is estimated based on the stochastic market return. The proposed model follows Shariah principles by avoiding excessive risk and providing an ethical and socially responsible approach for portfolio selection. We assume that the portfolio return should be maximized for a given probability of loss and that any return below the Zakat threshold is a recourse cost. The Shariah-compliant portfolio selection model is obtained using a goal programming approach, a chance-constrained approach and a recourse approach. An empirical study from Bahrain Islamic Market is reported.