Private equity funds (PEFs) are private investment pools designed to attract and manage large investments from high-net-worth individuals and institutions. Unlike public mutual funds or ETFs, PEFs offer greater flexibility. PEFs are established and managed by private equity firms, acting as the general partner. To launch a new PEF, the firm invites a limited pool of investors to participate. These investors become limited partners in a fixed-term (often 10 years) terminal partnership structure. A single private equity firm can manage multiple PEFs concurrently.

Investors in PEFs are passive, relying on the professional management of the general partner. PEFs differ from other funds in several key ways:

They require a significant minimum investment, often in the millions.
Investments typically have a lock-in period of several years, restricting investor access to their funds during that time.
Investors make a commitment to contribute capital, with funding occurring gradually as the PEF identifies and makes new investments.
The higher risk profile of PEFs translates to potentially greater volatility in returns, but also the possibility of higher returns compared to some other investment options.

Islamic private equity funds are designed similarly to their conventional counterparts but adhere to Sharia principles. Here are some fundamental requirements for Islamic PEFs:

Shariah Advisor: An essential role, providing guidance and ensuring compliance with Sharia principles in investment contracts and structures.
Shariah-compliant Activities: Investee companies' core activities must comply with Sharia, prohibiting involvement in activities like interest-based financial services, gambling, and non-halal products.
Shariah-compliant Structure: Investments should be tangible, non-speculative, and free from non-Sharia-compliant activities.
Underlying Assets: All investments should be Sharia-compliant, of high quality, and assessed for risk and reward.
Profits of Fund: Profits are based on investment returns without guaranteed returns, and provisions for reinvestment are present.

Islamic PEFs generally experience less volatility in returns compared to conventional PEFs. This is primarily due to the absence of interest-bearing debt, which conventional PEFs may use for leverage. Additionally, Sharia compliance means no speculative positions, risk arbitrage, nor short positions. Islamic PEFs are required to avoid excessive risk associated with short positions and focus on long (buy) positions. Furthermore, the need to avoid products with elements of uncertainty (gharar) means Islamic PEFs cannot use derivatives and most structured products. These factors differentiate Islamic PEFs from their conventional counterparts despite similar operational structures.

Islamic PEFs utilize several contractual models in their operational structure to comply with Sharia principles. Here are some common examples:

Mudarabah (Profit-sharing): An investor provides capital, and an entrepreneur manages the venture. Profits are shared based on an agreed ratio, while losses are borne by the investor, unless negligence of the entrepreneur can be proven.
Musharakah: A partnership where parties contribute capital for a business venture. Profits are shared according to the capital contribution, while losses are distributed similarly.
Wakalah: A contract authorizing one party to act on behalf of another, as long as the principal is alive.

Islamic private equity funds offer alternative investment options that comply with Sharia principles.