Friday, August 6, 2010

Crude Palm Oil Futures Contract: The Fatwa

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RESOLUTION

At its eleventh meeting on 26 November 1997, the SAC had resolved that the futures contract on crude palm oil is permissible as it is in accordance with Syariah principles.



INTRODUCTION

In general, there are two types of futures contracts: commodity futures contract and financial futures contract. This resolution takes into consideration the views of Islamic jurisprudence regarding commodity futures contract only. This contract can be defined as an exchange-traded agreement to buy and sell a commodity in an actual market (cash market) in a standard quantity, at a future date and at a determined place of delivery.

In Malaysia, there is only one type of commodity futures contract and that is the crude palm oil futures contract. It is a financial product innovation for those involved in crude palm oil trading to manage risks more efficiently and effectively, especially the risk of price fluctuation.


ARGUMENTS THAT SUPPORT THE PERMISSIBiliTY OF CRUDE PALM Oil FUTURES CONTRACT

The SAC, assisted by ICMU conducted an in-depth study on this instrument and related Syariah issues. Among the issues were:


Gambling

There were doubts about this instrument based on the requirement imposed on a market player to place a deposit as a margin of payment before he begins trading. This action is regarded as a prohibited bet.

The SAC resolved that such a trading activity does not constitute gambling because the fluctuation of the value occurs due to the change in demand in the crude palm oil futures market. It is also a common phenomenon in the trading world. It is not appropriate to judge a contract whose value fluctuates due to the changing demands for crude palm oil futures market as a gambling activity. This is because gambling activities depend solely on luck and are not related to demand and offer.



Gharar

Gharar is defined as something that is not certain. This instrument relates to the uncertainty in obtaining goods that have been bought and in receiving potential profits.

The SAC is of the opinion that profit and loss in business is a common factor, although traders aspire to earn profits. This is stated by Allah S.W.T. in several verses such as Surah al-Fatir verse 29 which describes the aspiration of traders not to incur losses. Allah S.W.T. states:

يرجون تجارة لن تبور

Which means: "For them, they secretly and openly hope for a commerce that will never fail."
)Surah AI-Fatir: 29)

Similarly in Surah al- Taubah verse 24 which describes the worry over a losing concern. Allah S.W.T. states:

..وتجارة تخشون كسادها

Which means: "…the commerce in which you fear a decline"
)Surah AI-Taubah: 24)

This shows that profit and loss is a feature of trading and a trader should take steps to minimise loss.

The main question in a crude palm oil futures contract is whether gharar really exists. An important element in trading raised by Islamic jurists is the element of ghalat. This must be clarified as there is a misunderstanding that it is similar to the principle of gharar. The Islamic jurists see ghalat from the view point of maslahah istiqrar ta 'amul which means that market players are given the freedom to trade, accept and trust each other in their transactions to ensure that the market runs smoothly. Factors that can disturb the market operations are cheating and manipulation. Ghalat that involves a wrong assessment of an individual (ghalat aqid) cannot be used as a basis to terminate a contract. The factor that can terminate a contract is ghalat wadhih, which is an error clearly resulting from cheating.

When a crude palm oil futures contract is offered, specifications such as quantity, type, price and delivery date are made known to the market players. Therefore there is no element of gharar in the contract. All specifications are made clear in the contract, and surveillance and regulation are provided to ensure there is no cheating.


Buying Something That Does Not Exist (Bai' Ma'dum(

Ibn Qayyim had studied the issue of bai' ma'dum and clarified that the prohibition of bai' ma'dum was actually because there exists the element of uncertainty to hand over the goods sold. Nevertheless, bai' ma'dum that occurs in something that exists and the seller can obtain it or in the form that can be made tangible, is approved and legal. This often occurs in Syariah such as salam (forward sale) and istisna' (contract of manufacture). Therefore, bai' ma'dum is prohibited because of the element of gharar rather than the element of ma'dum.

The above situation does not occur in the crude palm oil futures market. The contract can be settled in cash before the due date or settlement by delivery on the due date. In addition, the clearing house ensures the delivery and settlement of a transaction. Therefore, the element of gharar does not exist or is insignificant.


Speculation

Speculation is also one of the issues that has cast doubts on crude palm oil futures contracts according to Syariah.

Speculation refers to making profits out of the price movements of goods. In fact, speculation exists in many forms of businesses and is not limited to futures transactions. The concern is whether it is conducted excessively or under normal circumstances.


No Exchange of Good ('Iwadh(

Present Islamic scholars put forward the issue that 'iwadh does not occur in crude palm oil futures transaction. 'Iwadh means the exchange in buying and selling, but in this context no purchase of goods in the actual sense has occurred. Therefore, there is no increase in value in economic activities.

Crude palm oil futures contract trading, in actual fact, gives an increase in value to market players. For example, when producers of crude palm oil hedges, they endeavour to cut costs. This will indirectly improve company profits and make their products more competitive.

Based on the studies, claims such as gharar, bai' ma'dum, non-existence of 'Iwadh etc do not occur. The SAC had thus resolved that crude palm oil futures contracts are in accordance with Syariah, for as long as they are free from the element of riba. So, investors who are concerned with Syariah practices can benefit from these facilities used as instruments for risk management.



Country Of Origin : Malaysia
State : Kuala Lumpur
Fatawa Issuing Body : Securities Commission
Author/Scholar : Syariah Advisory Council
Date Of Issue : October 2003

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