Dr. Monzer Kahf, a prominent economist and counselor, states the following: “Buying shares of companies that participate in impermissible contracts or produce impermissible goods and services is not permitted in Shari’ah. The reason for this is that when you buy the shares of a company, you become a partner in it, and its board of directors and executive officers represent you as a share-holder in all the decisions made by the company. This is the same as you making these decisions yourself because of the delegation of authority.
On the other hand, buying stocks/shares in companies whose business and transactions are all within the limits of Shari’ah, such as shares in Islamic banks, is permissible.
It must be noted however, that the majority of companies fall within the third category whereby the main line of business is permissible such as technological companies, but their management sometimes participate in interest-based transactions and/or other impermissible transactions. The principle of prohibition applies to such companies, because when it comes to doing anything that is prohibited, it does not matter whether it comprises all the activity of a company or only some of it. If something is prohibited in Shari`ah, then all that is connected with it is also prohibited, as the Prophet (peace and blessings be upon him) is reported to have said: “…If it is ordained for you not to do something, you must quit it completely…”
A group of Muslim scholars argue that the prohibition of buying stocks that fall under this third category of companies (that actually includes the overwhelming majority of companies listed in the stock market) would create difficulty and hardship on small investors who have no other outlet to invest their savings. The Shari`ah rule is: whenever a hardship applies to a large number of people, there must be a relaxation of the prohibition. Consequently, this group of scholars argues that investment in the shares of such companies may be tolerable provided that a prohibited activity of their management is not a large percentage of the total activities of the company. They went on to define the percentage of such activities that renders them tolerable.
Generally speaking, these criteria include the following: the income from interest based transactions and other prohibited activities should not constitute more than 5 % of the net profit of the company. The amount of interest based loans in the company should not exceed 30 % of the company’s total resources. The main line of the business of the company should not be prohibited in itself (this includes conventional banks, companies that produce weapons, as weapons are normally used for aggression in today’s world, and the assets that generate interest for the company), and these should not be more than one third of the total assets.”