Risk Management in
Islamic Financial Instruments
40
parties that the other will default. A futures contract is essentially the same as a forward
contract, but standardized with respect to contract, size, maturity, product quality, place of
delivery, etc. When sold on an exchange, the problem of multiple coincidences and counter
party risk are solved (the exchange acts as the guarantor for each trade by being the buyer to
each seller and the seller to each buyer), and the prices, being that they are arrived at through
the interaction of many buyers and sellers, avoid situations where one party imposes upon
another (Kunhibava, 2010). Having said that, in commodity futures, options are often utilized
and not executed in such a way that actual delivery takes place.
Contemporary scholars, for the most part, have ruled that a futures sale, which comprises
deferment of both counter-values, is a sale of one debt for another and as such, it is forbidden
(Kunhibava, 2010). Additionally, because both counter-values in future sales are nonexistent
at the time of the contract (the money and the goods), it is not a genuine sale. Rather, it is a
mere sale or exchange of promises (a sale can be valid if either the price or the delivery is
postponed, but not both) (Kunhibava, 2010). In an option contract, payment of a premium is
required to secure the right to buy (or sell) the underlying asset at a predetermined exercise
price, which, according to Usmani is permissible, because an option is a promise, and such a
promise is itself permissible and “normally binding on the promisor‟ (Kunhibava, 2010).
However, Kunhibava (2010) writes that since an option transaction bears fees on the
promises, it is impermissible under the Shari’ah.
Due to their inherent speculative nature, innovative derivative instruments that satisfy the
tenets of Islamic financial theory may not be feasible; however, through Islamic financial
engineering, contentious compliant-derivative instruments have been developed. In Islamic
finance, one of the first known efforts to join a sukuk with a derivative is the sukuk
musharakah with detachable provisional rights to the allotment of warrants, issued by WCT
Engineering in the first quarter of 2008 (Kunhibava, 2010). This financial structure, a sukuk
joined with a warrant, enables the issuer to enter capital markets and allows for diversification
of portfolios for investors through the feature of warrants (Kunhibava, 2010). Further, Islamic
instruments that have derivative-like features or can/have be used to develop derivative-like
instruments are salam, istisna, arbun, istijar, Islamic swaps, kiyar al-shart, wa’d and ji’lah
(Kunhibava, 2010). Kunhibava (2010) posits that salam can be compared to a forward
contract, barring the fact that in a salam contract, only one party defers his contractual
obligation, while istisna (another deferred-sale contract, in which the price is paid in
installments as the work progresses in manufacturing or building an object) can also act in the
capacity of a deferred-sale derivative. Bay al-arbun, on the other hand, is similar to a call
option, except that, in the call option, the down payment is not subtracted from the contract
price (Kunhibava, 2010, notes, too, that the future price is known on the day of the contract
agreement). Though many contemporary scholars have proposed its use as an Islamic
derivative, namely Al-Amine and Kamali, the legitimacy of bay al-arbun remains contested.
Introduced by CIMB in 2004, the common types of Islamic swap structures used are the
Islamic Profit Rate Swap (IPRS) and the Islamic Cross Currency Swap (ICCS). Kunhibava
(2010) states that the IPRS instruments are used to swap or exchange floating payment
obligations with fixed payment obligations (or vice versa) for the purposes of hedging and that
ICCS instruments are used to hedge against fluctuations in currency rates. This is done by