Trading in Currencies – Standard One

An overview of AAOIFI Standard Number One is presented. It should be noted only a summary and overview of the standard is presented, the full standard is available from AAOIFI.

Scope of standard

The standard was issued on 27 Safar 1421H corresponding to 31 May 2000.

The standard is applicable to issues of both actual and constructive possession of currencies, the use of modern means of communication in currency trading, exchange of currencies in the context of the bilateral settlement of debts owed by the parties to the exchange, dealing in currencies in money markets, bilateral promises to buy and sell currencies, deferment of the delivery of one of two counter values in currency trading, and some cases practiced by the institutions.

Overview of Shari’a ruling on trading in currencies

• It is permissible to trade in currencies, provided that it is done in compliance with the following Shari’a rules and precepts.
  • Both parties must take possession of the counter values before dispersing, such possession being either actual or constructive.
  • The counter values of the same currency must be of equal amount, even if one of them is in paper money and the other is in coin of the same country, like a note of one pound for a coin of one pound.
  • The contract shall not contain any conditional option or deferment clause regarding the delivery of one or both counter values.
  • The dealing in currencies shall not aim at establishing a monopoly position, nor should it entail any evil consequences to the interest of individual or societies.
  • Currency transactions shall not be carried out on the forward or futures market.
• It is prohibited to enter into forward currency contracts.
• It is prohibited to deal in the forward currency market even if the purpose is hedging to avoid a loss of profit on a particular transaction effected in a currency whose value is expected to decline.
• It is permissible for the institution to hedge against the future devaluation of the currency by recourse.
• It is permissible for the institution and the customer to agree, at the time of settlement of the instalments of a credit transaction (such as a Murabaha), that the payment shall be made in another currency applying the spot exchange rate on the day of payment.

Possession in sales of currencies

• When a contract is concluded for the sale of an amount of currency, possession must be taken for the whole amount.
• Taking possession of one of the counter values by one party without taking possession of the other is not enough to make a currency dealing transaction permissible.
• Possession may take place either physically or constructively.
• Physical possession takes place by means of simultaneous delivery by hand.
• Constructive possession of an asset is deemed to have taken place by the seller enabling the other party to take its delivery and dispose of it, even if there is no physical taking of possession.

Agency in trading in currencies

• It is permissible to appoint an agent to execute a contract of sale of a currency with authorization to take possession of and deliver the countervalue.
• It is permissible to appoint an agent to sell currencies without authorizing him to take possession of the amount sold, provided the principal or another agent takes possession at the closing of the transaction, before the principal parties are dispersed.
• It is permissible to authorise taking possession of the countervalues after the execution of a contract of currency exchange, provided such possession is completed by the authorised agents at the closing of the transaction, before the principal parties are dispersed.

Bilateral promise to purchase and sell currencies

• A bilateral promise to purchase and sell currencies is forbidden if the promise is binding, even for the purpose of hedging against currency devaluation risk. However, a promise from one party is permissible even if the promise is binding.
• Parallel purchase and sale of currencies is not permissible.
• It is not permitted for one of the partners in Musharaka or Mudaraba to be a guarantor for the other partner, to protect the latter from the risk of dealing in currencies. However, it is permissible for a third party to volunteer being a guarantor for that purpose, provided this guarantee is not stated in the contract.

Exchange of currencies that are debts owed by the parties

• An exchange of amounts denominated in currencies that are debts established as an obligation on the debtor is permissible, if this results in the settlement of the two debts in place of a bilateral exchange of currencies, and in the fulfilment of the obligations in respect of these debts. This covers the following cases:
  • Discharge of two debts when one party owes and amount from another party denominated in (say) dinar and the other party owes an amount from the first party denominated in (say) dirham.
  • The creditor’s making payment of a debt due to him in a currency different from that, in which the debt was incurred, provided the settlement is effected as a spot transaction at the spot exchange rate on the day of settlement.

Combination of currency exchange and transfer of money

• It is permissible to execute a financial transfer of money (remittances) in a currency different from that presented by the applicant for the transfer.

Forms of dealing in currencies via institutions

• Among the forms that are not permitted is the customer of an institution entering into currency trading for an amount of money exceeding the amount of money he owns, using credit facilities granted by the institution which handles the currency trading, thus enabling the customer to enter into a transaction for an amount in excess of what he would otherwise be able to pay for.
• It is not permitted for the institution to lend the customer a sum of money on the condition that currency dealing must be effected with that institution and not with any other. If there is no such condition then there is no Shari’a prohibition.