HEDGING, NOT BETTING....

(Extracted from Reuters)

Islamic banks are struggling to develop hedging tools as religious differences cast doubt on the use of derivatives, exposing the industry to risks of increased volatility as markets deteriorate.

Strict rules on transparency and simpler deal structures saved shariah lenders from the worst of the current credit crisis, but their ability to survive future shocks is in question because they have few instruments to guard against wild swings in currency and interest rate movements.

The $1 trillion (694 billion pounds) industry bans banking structures that are vague or ambiguous to avoid exploitation -- a rule which some argue shuts out the use of common hedging instruments such as currency and interest rate swaps and futures contracts.

But as more markets embrace Islamic finance, and the need for risk protection increases, there are growing attempts to find sharia hedging tools.

More complex derivatives have come under widespread scrutiny by regulators and governments in the West for their role in the credit crisis. Some products have been blamed for spreading risks of bad assets rather than containing them, and amplifying the impact of losses in the financial slump.

Derivatives were a prickly issue in Islam even before the U.S. subprime mortgage market collapsed. Reflective of the diverse interpretations of Islamic law, the industry is divided over the use of derivatives -- and for different reasons.

This has left Islamic institutions with far fewer hedging devices than their conventional peers.

Conservative religious scholars reject derivatives because hedging practices are deemed speculative bets on currency and stock movements which violate the sharia ban on gambling.

These suspicions have deepened with derivatives having evolved from relatively simple contracts such as foreign-exchange forwards to complex tools like credit default swaps, over-the counter-contracts between two parties that bet on whether a company will default on its bonds within a certain time.

The conventional credit derivatives market alone was estimated to be worth some $55 trillion by last October.

With derivatives seen as a key trigger for the financial crisis and ensuring global economic downturn, opinion in Islamic finance may have now swung in favour of the conservative view.

Some shariah advisers, however, permit derivatives as long as they are used to hedge risks on existing investments and not for speculation.

The difficulties with this argument are clear.

"Islam encourages you to manage your risk," said Agil Natt, chief executive of INCEIF, an Islamic university based in Kuala Lumpur. "But when does risk management end and gambling begin?"

Derivatives are also avoided as their underlying assets can be uncertain, as many loss-laden Western banks and investors have discovered.

"In Islamic law, there must be something tangible that you are selling and you cannot be selling something in which you do not know the status of the subject matter" , said Mohammad Akram Laldin, a shariah scholar who sits on various shariah advisory boards including HSBC Amanah.

"You cannot be selling something in which you do not know the status of the subject matter."

Last year, CIMB Islamic, the world's top arranger of Islamic debt, launched a forex hedging tool where investors enter into an Islamic transaction with the bank. The net proceeds -- which are similar to the premium paid for conventional options -- gives investors the right to exercise the option at the agreed rate on the maturity date.

But some bankers say the industry is struggling to find enough Islamic contracts that can be used to create derivatives.

Most of the contracts that we have today aren't entirely and immediately transferrable towards structuring derivatives products. Apart from 'arbun', which is the contract that is used mostly to do options, it's not immediately clear that we've got enough other contracts that can be used to do other things."

Under an arbun contract, a purchaser makes a deposit (which forms part of the purchase price) to buy particular assets at a later date. Should the sale not proceed, the seller keeps the deposit.

Another difficulty is that Islamic finance contracts are subject to varying interpretations due to different readings of the shariah. The International Swaps and Derivatives Association is working on a template to standardize the main terms for over-the-counter shariah derivative contracts.

ETHICAL PRINCIPLES IN ISLAM

Fundamental moral values in Islam have practical implications across all spheres of life, including business. As such, we will explore a selection of Islamic principles relating to business ethics :

1) Truthfulness

“O believers! Fear Allah and speak (always) the truth” (Quran, 33:70)

This instruction has profound implications for establishing a flourishing business environment. All business dealings must be managed in an honest, truthful and straightforward manner.

There is no scope for cheating, misrepresenting and misleading in the Islamic framework. The principle of truthfulness and honesty are not followed merely as a matter of business strategy, rather they are the obligations of a true Muslim in all his dealings, including politics, diplomacy, judiciary, governance, administration and economic activities.

The Quran also describe Prophet Yusuf (as) as “man of truth” (Quran, 12:46).

Another unique feature of the Islamic economic system is that its moral values are fortified through institutional arrangements in the form of an hisbah for fair business.

2) Trust

A business enterprise is viewed as a trust from Allah swt between the society and entrepreneurs or sponsors. A businessperson is required to treat all business resources as a Divine trust. Hence, she/he is expected to make the most efficient and socially desirable use of business resources.

Prophet Musa (as) is described as “trustworthy”, one of the traits critical for his future role (Quran, 28:26). This concept of trust highlights the sense of responsibility towards all stakeholders, and holds true even where those entrusting something to Muslims are non-Muslims.

3) Justice

The whole universe is based on the concept of justice and balance. Justice means everyone should be treated as she/he duly deserves without discrimination. It includes fair treatment, equality and a sense of proportion and balance. Justice is a dynamic characteristic that each Muslim is required to develop.

Quran states : ‘O believers! Stand out firmly for Allah as witness for fair dealing and let not the hatred for others (non-Muslims) prevent you from justice. Be just : that is next to piety and ; and fear Allah for Allah is well acquainted with all that you do” (5:8)

Justice is a prerequisite for successful business and trade as it encompasses the entire gamut of corporate life. It permeates almost every business decision – pricing, product quality, human resource policy, corporate governance, financial disclosures, environmental protection and so on.

4) Competence

Competence is highly valued in Islam, even to the extent that a competent but Islamically weak leader may be preferred to an incompetent leader who is Islamically more knowledgeable. Notwithstanding this assertion, the most preferred set of qualifications is surely a combination of competence and knowledge.

Quran (28:26) describes Prophet Musa (as) as al-qawi (the most competent or qualified) and declares that Allah swt granted him “wisdom and knowledge” (Quran, 28:14).

In striving for excellence, Quran assures, “whoever pledges his life to Allah and his deeds are excellent, his reward is with his Creator” (2:112), and Prophet Muhammad (saw) states : “You should not be extremist, but try to be near to perfection” (Bukhari).

A distinction is also drawn between knowledge (ilm) and one’s ability (competence) to put his knowledge into practice (hikmah). The combination of these two concepts encourages entrepreneurial initiatives among the followers of Islam.

5) Sincerity and humility

Islam attaches enormous importance to humility and sincerity in every department of life. The performance of duties to perfection requires individuals to work with sincerity and devotion, and discourages manipulation or exploitation for personal gains. Accordingly, a sincere businessperson refrains from cheating or harming his/her business associates deliberately.

Quran describes Muslims in general as “those who walk on the earth with humility” (25: 63). Even affluent Muslims are not permitted to spend their wealth extravagantly, they are urged to spend cautiously so that economic resources are allocated only to productive asets (Quran, 17:26-29).

6) Brotherhood

Islam declares all human beings as one single community (Quran, 10:19). This has profound implications for the way in which entrepreneurs treat employees, customers, suppliers, shareholders and other stakeholders. Business dealings should not be conducted with the aim of personal gain, or the defeat and humiliation of business adversaries; rather they should be driven by the desire to add value to the general welfare of the society. Competition is then replaced with cooperation, but not at the expense of the efficient allocation of society’s resources.

7) Zakat

If implemented sincerely, this is a social self-help system that embeds welfare at the heart of society and results in complete eradication of poverty. The optimum use of zakat increases purchasing power in society and plays a vital role in maintaining sustained levels of demand and supply in the economy. However, this unique instrument for establishing economic justice based on Islamic values is being ignored, even in Muslim societies.

8) Knowledge and science

Islam makes it obligatory for Muslims to seek knowledge and obtain excellence in performance. Islam encourages dynamism, fosters initiative and enjoins Muslims to work persistently for progress and advancement, both materially and spiritually. Research and development is highly valued in Islam.

Prophet Muhammad (saw) urged Muslims to travel as far as China (the most distant country known to the Arab world in the 6^th Century) in search of knowledge. This passionate quest for knowledge and science brought unprecedented glory and success to Islamic civilization between the 6th and 14th Century. Indeed, it is believed in some quarters that the decline of Islamic civilization was set in train by a progressive reduction in resources allocated to education and human capital development after the 14^th Century.

THE POWER OF DUA/DOA (PRAYERS)

Once Prophet Muhammad saw passed by a people who were suffering from some affliction.

"Why don't they make dua (pray) to Allah for protection," he said.

With all the suffering and disasters Muslims are facing in various parts of the world, the question can be directed to all of us today.

It is not that we have forgotten dua completely; we refer to it regularly. But, our ideas and practice regarding dua have become distorted. Often it is reduced to the level of a ritual. Generally it is considered when all our efforts have failed --- an act of last resort. It is belittled through actions and sometimes even with words. Is it any wonder that today mostly a mention of dua is meant to indicate the hopelessness of a situation.

What a tragedy, for dua is the most potent weapon of a believer. It can change fate, while no action of ours ever can. It is the essence of ibadah or worship. With it we can never fail; without it we can never succeed. In the proper scheme of things, dua should be the first and the last resort of the believer, with all his plans and actions coming in between.

Dua is conversation with Allah swt, out Creator, our Lord and Master, the All Knowing, the All Powerful. This act in itself is of extraordinary significance. It is the most uplifting, liberating, empowering, and transforming conversation a person can ever have. We turn to Him because we know that He alone can lift our sufferings and solve our problems. We feel relieved after describing our difficulties to our Creator. We feel empowered after having communicated with the All Mighty. We sense His mercy all around us after talking to the Most Merciful. We get a new commitment to follow His path for that is the only path for success. We feel blessed with each such commitment.

In every difficulty our first action is dua, as is our last. We ask Allah swt to show us the way to handle that difficulty; we seek His help in following the path He shows to us; we seek His aid in making our efforts successful. When we fall sick, we know that we cannot find the right doctor without His Will; that the best doctor may not be able to diagnose our condition without His Command; that the best treatment plan will not succeed without His Permission. We make dua for all of these. We make dua before we seek medical help, while we are receiving it and after it has been delivered. The same is true of all other difficulties we may encounter.

Dua is the essence of ibadah. A person engaged in dua affirms his belief in Tawheed (monotheism) and shuns belief in all false gods. With each dua his belief in Allah grows. He beseeches Him, affirming his own powerlessness. A person seriously and sincerely engaged in dua understands exactly the relationship between himself and the Creator and affirms it through his actions. That is the essence of worship! Additionally, such a person can never become arrogant or proud, a logical result of true worship.

Dua is our most potent weapon in all struggles of life as well as in jihad in the battlefield. During the battle of Badr, the Prophet Muhammad saw stood up all night in prayer seeking Allah's help in the battle between unequal armies that would follow the next day. In the decisive battles against the crusaders, Sultan Salahuddin Ayyubi was busy day and night. His days were devoted to Jihad. His nights were spent making dua, crying, seeking Allah's help. This has been the practice of all true mujahideen.

We should make it a point to make dua for all things big and small. It is the beginning of wisdom to realise that big and small are arbitrary labels that are totally irrelevant in this context. Nothing is too big for Whom we are asking from; nothing is too small for the one who is asking. That is why we have been taught to ask Allah swt when we need something as small as shoelaces. We should ask as a beggar, as a destitute person, for that is what we in reality are in relationship to Allah. At the same time we should ask with great hope and conviction that we shall be granted our prayers. We should remember the Hadith:
"There is nothing more dear to Allah than a servant making dua to Him."

On the other hand, a prayer lacking concentration and conviction is no prayer at all.

We should make dua at all times, not only during times of distress. The Prophet Muhammad saw said:

"Whosoever desires that Allah answers his duas in unfavorable and difficult conditions, he should make plentiful dua in days of ease and comfort."

Also he said:

"The person who does not ask from Allah, Allah becomes angry with him."

We should ask for all of our needs: those related to this world as well as those related to the Hereafter. Those who only concentrate on the former are, in effect, announcing that they don't care for their life in the permanent abode. They should blame nobody but themselves for the total ruin in that world that Quran assures us awaits them. Those who only concentrate on the later are also showing lack of balance, for we need Allah's help to lead a good life here as well.

We should make dua not only for ourselves but also for our parents, brothers and sisters, spouses and children, relatives and friends, teachers and other benefactors, and destitute and struggling Muslims everywhere. We should pray for them for the good in this world as well as in the Hereafter. The Prophet saw said:

"The dua of a Muslim for his brother (in Islam) in his absence is readily accepted. An angel is appointed to his side. Whenever he makes a beneficial dua for his brother the appointed angel says, 'Aameen. And may you also be blessed with the same.'" [Sahih Muslim]

In the world that we are living in today, what do we do? We can continue to just feel frustrated and depressed. Or we can stand up before Allah swt and pray for His help, who alone can help. The dua can change our life, our outlook, and our fate. It is the most potent weapon. But it works only for those who try sincerely and seriously to use it.