Sharia and securities trading
The Islamic banking and finance movement that developed in the late 20th century as part of the revival of Islamic identity sought to create an alternative to conventional banking that complied with sharia (Islamic) law. Following sharia it banned from its practices "riba" (usury) – which it defined as any interest paid on all loans of money – and involvement in "haram" (forbidden) goods or services such as pork or alcohol. It also forbids gambling ("maisir") and excessive risk ("bayu al-gharar"). This meant that not only were interest-bearing loans, accounts, and bonds not allowed, but many  financial instruments and activities common in conventional financial markets have been forbidden by most Muslim scholars because of their connection with "maisir" or "gharar" (and also sometimes because they involve payment of interest). These include margin trading, day trading, short selling, and financial derivatives such as forwards, futures, options, and swaps. This, however has not stopped the Islamic finance industry from using some of these instruments and activities, and their permissibility is a subject of "heated debate". While they often involve more risk than other investments and are used by speculators, they are defended as having useful economic functions. They  are used in a large number of financial procedures, help manage risk and volatility (among other things), and provide incentives for employee productivity and innovation. Scriptural basis. The Quran states in aya 2:275 that "Allah has permitted trade and forbidden usury." But not all trade is allowed in Islam. The Qur'an prohibits gambling ("maisir", games of chance involving money). While the Quran does not specifically mention "gharar" (risk), several hadith prohibit selling products like "the birds in the sky or the fish in the water", "the catch of the diver", or an "unborn calf in its mother's womb". These  have been called "bayu al-gharar" (literally "trading in risk", defined as sales in which gharar is the major component). Jurists have distinguished between this kind of forbidden "gharar", and "gharar" considered minor ("yasir") and so permissible ("halal"), but disagree (according to at least one source, Abu Umar Faruq Ahmad), over what constitutes each kind, and have not agreed on an exact definition of the meaning and concept of "gharar". The "Hanafi" and "Shafi'i madhab" (schools of jurisprudence) define "gharar" as "that whose consequences are hidden," the "Hanbali" school as "that whose consequences are unknown" or "that which is undeliverable , whether it exists or not." One modern scholar of Islam, Mustafa Al-Zarqa, defines "gharar" as "the sale of probable items whose existence or characteristics are not certain, due to the risky nature that makes the trade similar to gambling." Instruments and services. Commonly used financial instruments and practices that are often considered "haram" are: Forbidding. Options, futures and "other derivatives" are "generally" not used in Islamic finance "because of the prohibition against maisir" (according to Thomson Reuters Practical Law). Margin trading, day trading, options, and futures are considered prohibited by sharia by the "majority of Islamic scholars" (according to  Faleel Jamaldeen). Margin trading (because it involves borrowing money to buy what is being traded) involves interest payments in margin accounts, day trading (because it involves buying and selling financial instruments within the same trading day) is not concerned about the underlying product or economic activity of what is traded. One source (Investopedia) states ""gharar" is observed within derivative transactions such as forwards, futures and options, as well as in short selling and in speculation." Derivatives. Juan Sole and Andreas Jobst write that "legal scholars" have alleged that derivatives "contain excessive uncertainty ("gharar")" and "encourage speculative behavior akin to gambling  ("maisir")". According to economist Feisal Khan, derivatives (essentially securities whose price is dependent upon one or more underlying assets) "fail" the tests of Islamically permissible by lacking `materiality` (i.e. a direct link "to a real underlying economic transaction"), and involving speculation. Furthermore, "almost all conservative Sharia scholars" have ruled that `when applied to modern financial contracts, the prohibition of "gharar" eliminates futures, options, and some life assurance contracts`". Taqi Usmani forbids most futures transactions because their "delivery or possession is not intended and therefore the "niah" [goal, purpose] of the contracting parties is questionable". Investopedia states  In Islamic finance, most derivative contracts are forbidden and considered invalid because of the uncertainty involved in the future delivery of the underlying asset. Faleel Jamaldeen writes that the majority of Islamic scholars agree that options have features of speculation and gambling. In addition, the investor (second party) doesn’t intend to hold the asset (which is generally considered crucial for an investment to be sharia-compliant). Based on these characteristics, most Islamic scholars believe that options are prohibited investments. Raj Bhala calls the short selling of stocks an example of common financial trading forbidden by sharia law — forbidden because 	Sharia and securities trading
20244717	the short seller borrows rather than owns the stock shorted. Taqi Usmani gives short selling as an example of an economic activity banned according to divine restrictions". According to Humayon Dar (CEO of a shari'ah advisory firm), there is "no dispute by all main scholars" that short selling is haram. Jurist Yusuf Talal DeLorenzo notes in connection with injunctions against day trading that owning stocks for less than a day does not show a commitment to stewardship in ownership consistent with Islamic teaching. Focus Business Services of the UAE notes that the short period of "ownership" means day traders do  not truly own what they trade, and furthermore pay interest, as marketable securities "generally have a multi-day settlement period, during which time the underlying instruments, while cleared, are not formally registered in the name of the purchaser. As day traders do not wait for settlement to complete, they are using a type of credit cushion provided by their broker." Faleel Jamaldeen includes margin trading as one of the activities prohibited by the "majority of Islamic scholars", the reason being it involves borrowing funds to invest, and the lender of the funds charges interest. Moreover, losses can be greater than  the amount borrowed, because margin trading amplifies the risk to the investor, increasing as percentage of debt or leverage increases. Defense and benefits. On the other hand, some Islamic finance practitioners and critics find benefit in at least some uses of derivatives and short selling. At least one scholar (Mohammed Hashim Kamali) finds "nothing inherently objectionable" in selling and using options, which like other kinds of trade (he believes) is "mubah" (permissible) in fiqh, and "simply an extension of the basic liberty that the Quran has granted". Economist critic Feisal Khan points out the "current relatively strict interpretation" by "ulama  of ahadith related to trade and commercial transactions have a wide-ranging impact on basic bank functions since virtually all" financial instruments involve the interest rate "in some way or form". Thus the "current relatively strict interpretation of the "hadith" related trade and commercial transaction" would ban "not only speculative financial transactions such as options and futures but also, for example, hedging by forward sale, interest-rate swaps, and any transaction involving items not physically in the possession of the seller (e.g. short sales) and all other forms of derivatives, i.e. financial securities that have no underlying real transactions. ... Activities  such as bill discounting and government debt issue with a fixed coupon rate, inflation indexing, securitized debt obligations, and foreign exchange dealings would also be prohibited unless cumbersome intervening steps reminiscent of the medieval "contractum trinius" are undertaken." Opposition by conservative Islamic scholars to use of derivatives as a form of gambling that violates sharia law exposes the Islamic Finance industry "to risks of increased volatility" when markets deteriorate, according to Y-Sing. Agil Natt, chief executive of the International Centre for Education in Islamic Finance, asks, "when does risk management end and gambling begin?" One defender of the use  of options in Islamic banking is Andreas A. Jobst of the International Monetary Fund, Along with Juan Sole, Jobst writes that "many" shariah scholars "now accept the application of hedging of actual exposures as an essential element of sound risk management and acknowledge the opportunity cost imposed by a lack of Islamic hedging tools." Jobst argues that using derivatives for risk diversification "contributes to the continuous discovery of the fair market price of risk, improves stability at all levels of the financial system and enhances general welfare." Specifically, issuing stock options to employees is a common way of increasing productivity . Use in Islamic finance. Short sales. Short-selling has been forbidden by "conservative scholars" because it requires the selling of an item by the investor that they do not own. However "some Shariah-compliant hedge funds" in at least one country with a large financial sector (the United States) have created a way to short shares of stocks that has been "Shariah-certified", according to Feisal Khan. It requires a "down-payment" towards the shorted stock instead of "margin" (borrowed money). Another source, Irfan A Naheem (a representative of a Sharia consulting firm) states that Islamic hedge fund managers have  developed alternative Shariah compliant strategies with two instruments — ""Salam" and "Arbun"" — being "the Islamic alternatives for the conventional short selling." Naheem argues that the hadith (where the Islamic prophet Muhammad commands: "sell not what is not with you") — which is traditionally interpreted by Muslims as an injunction not to sell what you do not own — actually may refer only to the sale of items that are unique or not commonly available. If something is readily available (such as an instrument is in a short sale) then borrowing and selling is not forbidden (Naheem contends). El-Gamal criticizes this practice as  an imitation of conventional ""ribawi"" finance in "synthesizing" Islamic versions of short sales (as well as other instruments). Feisal Khan and El-Gamal also complain that using a "down-payment" rather than borrowed "margin" funds in shorting a stock is simply a workaround little different than the conventional process, but charging "substantially higher fees". Derivatives. As of 2013 the Islamic derivatives market was "in its infancy" and its size was not known. The Islamic derivatives — or at least derivatives declared sharia compliant — include swaps, and put and call options. According to critic of Islamic finance, Mahmoud A. El-Gamal, one  way the Islamic finance industry gets around prohibitions on the use of options is to use conventional banks/financers as a "buffer" between the "haram" income and its sharia obedient customers — employing conventional banks as partners or advisers and paying them with the "haram" gains from derivatives. Swaps. Faleel Jamaldeen describes the Islamic swap market as being composed of two kinds of swaps: (Versions of both of these two swaps — called the Islamic Profit Rate Swap and the Islamic Cross Currency Swap — as well as a version of a derivative called the Islamic Forward Rate Agreement, are offered by one  Islamic bank (Standard Chartered Saadiq Malaysia)). According to Harris Irfan, the Islamic finance market is "awash" with contracts for the "profit rate swap". By 2010 they had become common enough for a global standard to be developed by the Bahrain-based International Islamic Financial Market and New York-based International Swaps and Derivatives Association This standard, called the "Tahawwut" or the "Hedging Master Agreement" provides a structure under which institutions can trade derivatives such as profit-rate and currency swaps, or as the ISDA/IIFM describes it, is "designed to govern the legal and credit relationship between two parties embarking  on a bilateral trading relationship involving Shari’a-compliant hedging transactions based on murabaha transactions." Juan Sole and Andreas Jobst describe the standard as an "innovative" pan-madhab agreement spanning "all five major schools of Islamic jurisprudence". It has "strong parallels" to the 2002 ISDA Master and Schedule of the conventional banking industry. Irfan urges Islamic financers to use this "Tahawwut" or "Hedging Master Agreement" and benefit from the cost saving of its standardization, but lamented that it has not being widely used as of 2015. In March 2012 the ISDA and IIFM issue another product standard, the ISDA/IIFM "Mubadalatul  Arbaah", to provide "an Islamic risk mitigation framework for the industry". Another "hedging tool" (but not a standard) is the "Islamic Profit Rate Swap" (IPRS) which "allows two parties to exchange a series of profit payments in a single currency in exchange for another series of payments in the same currency". It has been described by the Islamic Bankers Resource Centre as an "alternative" to the "Tawarruq Murabaha" and similar to it except that the underlying assets it uses for the transaction are not actual commodities but the Mudharabah Islamic Interbank ("MII"), and it uses "Bai Inah" contracts instead of  Murabaha. The IPRS involves "three Shariah concepts": the "Wa'd", the "Bai’ Inah" and the "Muqassah". IPRS has been used quite a bit in Malaysia but its "Bai Inah" contract is "rejected" in the Middle Eastern countries. A standard used "to facilitate" the Islamic Profit Rate Swap is the Islamic Derivative Master Agreement (IDMA), issued by Malaysia's central bank, the Bank Negara Malaysia, in 2007. Wa'd. "Wa'd" (literally "promise"), is a principle that has come to underpin or to structure shariah-compliant hedging instruments or derivatives that provide substitutes for conventional hedging products such as forward currency contracts and currency  swaps. However, "Wa'd" has been called "controversial", and its products criticized as mimicking conventional ones and "'Islamic' in form alone". A "Double "Wa'd"" (literally "double promise") is a derivative that allows an investor to invest in and receive a return linked to a financial benchmark — such as an index of interest-bearing US corporate bonds — that would normally be in violation of Shariah. The investor's cash goes to a "special purpose entity" and in return they receive a certificate to execute the derivative. This involves a promise that on an agreed day in the future the investor will receive  a return linked to the chosen benchmark. (If the interest-bearing US corporate bond index has gained 10%, for example, the investment gains 10% although no corporate bonds have been purchased.) Several features of the double "wa'd" (allegedly) make the derivative sharia compliant: So despite the fact that benchmark involves non-compliant investments, the contract is not "bilateral" (something forbidden by sharia), because "the two undertaking promised are mutually exclusive", and this (proponents say) makes it in compliance with shariah. In 2007, Yusuf DeLorenzo (chief Sharia officer at Shariah Capital at the time) issued a fatwa disapproving of the double  wa'd in situations where the assets reflected in the benchmark were not "halal", but this has not curtailed its use. Put and call options. Like the Islamic equivalent for short sales, a number of Islamic finance institutions have been using the down-payment sale or "urbun" as an Sharia-compliant alternative to the conventional call option. In this mode the Islamic equivalent of the option "premium" is known as a "down-payment", and the equivalent of the "strike price" is called the "preset price". With a conventional call option the investor pays a premium for an "option" (the right but  not the obligation) to buy shares of stock (bonds, currency, and other assets may also be shorted) in the hope that the stock's market price will rise above the strike price before the option expires. If it does, their profit is the difference between the two prices minus the premium. If it does not, their loss is the cost of the premium. When the Islamic investor uses an "urbun" they make a down payment on shares or asset sale in hope the price will rise above the "preset price". If it does not their loss is the down-payment  which they have the right to forfeit. A put option (i.e. where the seller has the right but not the obligation to sell at a preset price by some point in the future, and so will profit if the price of the underlying asset falls below that price) is called a `reverse "urbun"` in Islamic finance. Sherif Ayoub criticizes the practice of labeling what is effectively an option premium a "down payment" as "creative" but misleading. He points out that how and why their prices are calculated is very different. The down payment is intended as security for  the financer — proof that the buyer has "skin in the game". The premium in contrast is intended to ensure that (on average) the premiums paid to the seller exceed the losses from exercised options. The down payment is set as a percentage of the cost of the item being purchased. The premium has no relation to the price of the stock but is based on the difference between the strike price and the "actual price of the stock in the market at contract maturity". According to El-Gamal, "most analysts" who examine the differences between the "urbun" down payment and  the call option have "concluded that the latter cannot be synthesized from the former." Feisal Khan quotes Ayoub as describing the use of the "urbun" down payment for a call option as "extremely controversial among `traditional`" Islamic banking and finance scholars.