An Islamic Inter‐Temporal Capital Asset Pricing Model: Evidence From GCC Indexes

Fatma Alahouel and Nadia Loukil

International Journal of Finance & Economics, 2025, vol. 30, issue 4, 4095-4112

Abstract: Our study examines the multi‐period Islamic investment issue in GCC markets. We assess the validity of ICAPM by incorporating market dynamics: volatility and uncertainty. To test the predictive power of these factors over time, we employ Engle's (2002) dynamic conditional correlation framework and compute the DCC between Islamic stock index returns and three key variables: the GCC Islamic index (market index) and market state variables (volatility and uncertainty). For cross‐sectional variation, we follow Bali and Engle (2010) and estimate the seemingly unrelated regression (SUR) after measuring dynamic covariance. We report heterogeneous results revealing a complex relationship between market risk factors and expected returns. While the introduction of market volatility and uncertainty factors generally resulted in a negative risk premium, the specific impact varied across different markets. Interestingly, the Saudi index, holding significant weight within the GCC index, shows a negative risk premium and a positive uncertainty premium in the short‐term. Accordingly, investors seek a premium for uncertainty and accept a discount for volatility in the Saudi market. However, in the long term, a traditional positive risk–return relationship is observed. The cross‐sectional results reveal that both GCC index fluctuations and shifts in market volatility are associated with a negative risk premium, in the short term. Whereas, an increasing market uncertainty leads to a higher expected return in the following month. This study adds novelty to the literature related to the pricing of Shari'ah‐compliant assets by testing the inter‐temporal CAPM for these assets and showing the usefulness for investors. Indeed, the implementation of a multi‐period investment plan across Islamic GCC indexes can help investors mitigate adverse changes in market volatility and uncertainty.

Date: 2025
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