There has been large‐scale growth in Islamic finance and banking in Muslim countries and around the world during the last twenty years. This growth is influenced by factors including the introduction of broad macroeconomic and structural reforms in financial systems, the liberalization of capital movements, privatization, the global integration of financial markets, and the introduction of innovative and new Islamic products. Islamic finance is now reaching new levels of sophistication. However, a complete Islamic financial system with its identifiable instruments and markets is still very much at an early stage of evolution. Many problems and challenges relating to Islamic instruments, financial markets, and regulations must be addressed and resolved. In this paper, we provide a comprehensive comparative review of the literature on the Islamic financial system. Specifically, we discuss the basic features of the Islamic finance and banking. We also introduce Islamic financial instruments in order to compare them to existing Western financial instruments and discuss the legal problems that investors in these instruments may encounter. The paper also gives a preliminary empirical assessment of the performance of Islamic banking and finance, and highlights the regulations, challenges and problems in the Islamic banking market.

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This paper compares the performance of portfolios of debt free firms to comparable portfolios of leveraged firms. The results of the study indicate that investments in portfolios of debt free firms tend to generate higher returns than investments in their peer portfolios of leveraged firms over long and short periods. The results have clear implications for investment decisions and investment performance. Investors tend to reward firms that resist the urge to borrow heavily and operate with debt free balance sheets and penalize firms that have high levels of debt. Moreover, during market downturns, debt free firms will not have the additional burden of debt and may be able to recover much faster than companies that carry a debt load over a long period of time, and therefore would outperform leveraged firms. This latter assertion may be retested after the latest international financial crises come to an end.

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