This document discusses risk management in Islamic finance, specifically equity investment risk. It defines equity investment risk according to the Islamic Financial Service Board as the risk of participating in a business partnership where the provider of finance shares in business risks. Equity investments in Islamic finance are typically done through mudarabah and musharakah contracts which are profit/loss sharing in nature and can result in total loss of capital. The document outlines some of the key risks of equity investment including partner risk, lack of reliable partner information, credit risk, industry risk, and risks specific to mudarabah and musharakah contracts. It concludes by suggesting some ways to mitigate equity investment risk such as diversification, long-term investing, expert advice,

1. RISK MANAGEMENT
IN
ISLAMIC FINANCE
Mahyuddin Khalid

2. Equity Investment Risk
Content
Features of Equity
Investments
Equity Type of Shariah
Contract
Ways To Mitigate
Equity Risk
Learning Outcome
• To explain definition and feature
of Islamic Equity Investment
• To state risk in Islamic Equity
Investment Risk and their contract.
• To explain ways to reduce Islamic
Equity Risk in contract
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3. Definition
Islamic Financial Service Board (IFSB) identifies Equity
Investment Risk as:
 the risk arising from entering into a partnership of undertaking
or participating in general business activity as described, in the
contract and in which the provider of finance shares the business
risk
 E.g. Partnership-based investment are mudarabah and
musharakah contract.
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4. Features of Equity Investments
The nature of equity investments requires enhanced
monitoring measures to reduce informational asymmetric.
Both mudarabah and musharakah are profit/loss sharing
contract and are subject to loss of capital despite proper
monitoring
Equity investment may not generate a steady income
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5.  Quality of Partner
 Considerations as to the quality of the partner, underlying business
activities and ongoing operational matters.
 By nature, this type of equity investment is exposed to a confluence of
risks associated with Mudharib or Mushārakah partner, business activity
and operations.
 Factor of Environment
 Factors relating to the legal and regulatory environment affect equity
investment performance, and need to be considered in the risk
evaluation.
 These factors include policies pertaining to tariffs, quotas, taxation or
subsidies and any sudden policy changes affecting the quality and
viability of an investment.
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6.  BNM classifies the following as equity positions:
 Ordinary shares; voting or nonvoting (common or preferred)
 Convertible Securities
 Commitments to buy or sell equity securities
 Equity Derivatives
 Off-balance sheet items i.e. swaps and options
 Underwriting of equities
 Lack of Reliable Information
 Equity Market are exposed to the risks attaching to a lack of truthful
information on which to base their investment evaluation, such as an
inadequate financial control system.
 These risk can do by Mudharib and Musyarakah Partners.
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7. Credit Risk
 One example of credit risk exposure arises from the Mudhārib’s
obligation to pay the agreed share of profit to the IIFS as Rabb al-
māl when such payment falls due.
 Failure to meet this obligation constitutes a case of misconduct
and negligence in the part of the Mudhārib.
Industry Risk
 All industries have some kind of cyclical growth.
 Shareholders get rewarded most during the expansion stage.
 However, once the industry reaches maturity stage, the rewards
of investment are limited and can go decline.
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8. Equity Type of Shariah Contract
Mudharabah
Mudharib
Performance
of Sales
Misreporting
of profit
Rabul Mal
Financial problem
to continue
investing
Responsibilities to
destruct of the
company property
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9. Musyarakah
Musyarakah
 Performance of partners in Sales
 Credit Risk
 Financial problem in Musyarakah partner
 Musyarakah Partners misreporting of profits
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10. Ways To Mitigate Equity Risk
Diversification
Invest over a long time
Take advice from an expert
Choosing a right company
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11. Mahyuddin Khalid
End of Chapter
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