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Forex Trading In Islamic Finance

Forex Trading In Islamic Finance
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Fahid Fayaz Darangay
Forex, or foreign exchange, can be explained as a network of buyers and sellers, who transfer currency between each other at an agreed price. It is the means by which individuals, companies and central banks convert one currency into another – if you have ever travelled abroad, then it is likely you have made a forex transaction.
While a lot of foreign exchange is done for practical purposes, the vast majority of currency conversion is undertaken with the aim of earning a profit. The amount of currency converted every day can make price movements of some currencies extremely volatile. It is this volatility that can make forex so attractive to traders: bringing about a greater chance of high profits, while also increasing the risk.
Unlike shares or commodities, forex trading does not take place on exchanges but directly between two parties, in an over-the-counter (OTC) market. The forex market is run by a global network of banks, spread across four major forex trading centres in different time zones: London, New York, Sydney and Tokyo. Because there is no central location, you can trade forex 24 hours a day.
There are a variety of different ways that you can trade forex, but they all work the same way: by simultaneously buying one currency while selling another. Traditionally, a lot of forex transactions have been made via a forex broker, but with the rise of online trading you can take advantage of forex price movements using derivatives like CFD trading.
CFDs are leveraged products, which enable you to open a position for a just a fraction of the full value of the trade. Unlike non-leveraged products, you don’t take ownership of the asset, but take a position on whether you think the market will rise or fall in value.
Although leveraged products can magnify your profits, they can also magnify losses if the market moves against you.
Forex trading is increasingly accessible and the potential for quick money draws more traders in every day. On the surface, this looks like one of the halal investment opportunities as you’re simply buying and selling money. However, dig a little deeper and you might wonder is forex trading actually haram?
If you were to buy £4,000 for $2,5000 and sell it six months later when the pound appreciates against the dollar, then this is a halal transaction. But in reality there remain several issues.
To make substantial intraday profits from tiny price movements you need to invest large sums of money, thousands, if not hundreds of thousands of pounds. So, to alleviate this problem forex brokers offer you leverage. In effect allowing you to invest £50 or £75 for every £1 you put up. You can now take much larger positions and increase your profit.
However, this is in effect a loan. In Islam, it is permissible to borrow from someone for the purposes of investing to make a profit and then return that loan interest-free to the creditor.
However, with forex brokers, they are lending you the money for the sole purpose of taking a commission. Effectively they will make a return on every trade. Many scholars consider this a form of interest, making trading forex haram.
Fortunately, Islamic forex brokers have responded by providing day traders with an alternative. You can now get forex accounts which won’t charge you standard interest payments. To remain profitable they instead charge increased commissions in spot forex trades.
Whilst some suggest this is simply a disguised interest component, many scholars are content with this new method of facilitating trades. Any ‘regular’ spot forex trading offered by brokers with no overnight charges could well clear the riba obstacle.
With the interest element out the way, the next issue relates to the exchange itself. Trading is permissible ‘so long as it (exchanges) is hand to hand’. This shows the prophet Mohammed obviously had in mind commodities would be exchanged between two parties, as a natural part of commerce.
In the past, most deals would have been done face to face, but with the evolution of e-commerce what constitutes ‘hand to hand’?
Many argue the deal is made between the broker and trader, which would qualify under the definition of two different parties, and therefore halal.
Scholars have gone further to say the actual exchange must take place in the same ‘sitting’, when the contract is made. So, trades must be entered and exited almost immediately, which with forex traders they usually are. This could perhaps mean though that non-market trades such as stop and limit orders are in fact haram.
Another part of the answer to ‘is forex trading legal in Islam?’ centres around ownership. You are merely speculating whether the value of the currency will increase or decrease, so is this halal?
This is difficult to answer definitively and it may be something you want to seek specific religious advice on.
Many are in agreement with several factors surrounding forex that may answer the question. Islam recognises the need for humans to want to improve their lives, including their financial situation. We all must consider implications when confronted with choices and use intelligence to respond in such situations.
So, whilst we know gambling is strictly haram, you can find halal forex brokers who have made every effort to keep any activities strictly within the confines of Islamic law
(The author is currently pursuing Masters in Financial Economics from Madras School of Economics, Chennai)

 


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