Asset pricing factors in Islamic equity returns

Previous studies have compared risk-return characteristics of Islamic equity indices with their conventional counterparts, which may produce spurious results because a conventional equity index includes both Islamic and non-Islamic constituents. Hence, this study compares Islamic equity portfolios with their non-Islamic counterparts. We find that aggregate Islamic equity portfolios generally outperform non-Islamic equity portfolios after controlling for the five asset pricing factors-market, size, value, profitability, and investment (Fama and French, 2015). The average cost of equity is 2.77 percentage points lower for Islamic firms compared to non-Islamic firms. The findings hold for the various segments of the global equity market, and remain robust when the interest rate-augmented and the liquidity factor-augmented versions of the Fama-French five-factor model are employed. The GRS test results suggest these asset pricing models may not be adequate for pricing both Islamic and non-Islamic equities.