Islamic finance and trading: riba, gharar and swap-free accounts

This is a description of ideas and of how accounts are built, written for readers of any background. It is not a religious ruling, it does not speak for any scholar or school, and it does not say that any product is permissible or impermissible.

Islamic commercial law has been developed over many centuries by scholars working in several schools of thought, and qualified scholars reach different conclusions on modern financial products. Where they differ, this page says that they differ.

Riba is commonly translated as usury or interest. In its central sense it is an increase stipulated on a loan: the lender receives back more than was lent, as a condition of lending, whatever becomes of the money in the borrower’s hands.

The prohibition of riba is one of the foundations of Islamic finance. The reasoning usually given is that money is a means of exchange and not a thing that should earn by the passing of time alone, and that a return ought to come with a share in the risk of a real undertaking. The arrangements Islamic finance uses in place of interest-bearing loans follow from that: partnerships that share profit and loss, sales at a disclosed mark-up, and leasing.

The classical texts also deal with riba in exchange. When money is exchanged for money, the exchange is expected to be completed at once, hand to hand, and not deferred. That rule is the starting point for most discussions of currency trading.

Gharar is excessive uncertainty or ambiguity in a contract: about what is being sold, whether it exists, whether it can be delivered, or what the price is. Some uncertainty is part of all commerce and is accepted. What is avoided is uncertainty so great that one party cannot know what they have agreed to.

Maysir is gambling: gain that comes from chance alone, where one party’s gain is simply the other’s loss. It is prohibited, and it is the idea raised most often when short-term speculation is discussed.

Where trade ends and gambling begins, and how much uncertainty is too much, are matters of judgement. They are among the points on which scholars differ.

A leveraged currency position is, in effect, held with borrowed money. When it is carried from one trading day to the next, an ordinary account applies a financing adjustment called swap, worked out from the difference between the interest rates of the two currencies together with the provider’s own adjustment. It can be a charge or a credit.

Because it is worked out from interest rates and applied for the passing of time, swap is widely regarded as riba, whichever way it runs. A credit is not exempt: receiving interest is treated in the same way as paying it.

This is the one part of an ordinary trading account about which there is the least disagreement, and it is the part a swap-free account is designed to remove.

A swap-free account, often called an Islamic account, is one on which no swap is charged or credited when a position is held overnight. That is the whole of its definition.

It does not change what is traded or how. The spread is still paid, any commission is still charged, and the position is still leveraged and needs margin. Providers commonly apply an administrative charge to positions held on such an account, often after a number of nights; the charge is described as a fee and is not worked out from an interest rate.

A swap-free account is therefore an account with one feature removed. It is not a certificate. Calling an account Islamic describes whom it is intended for, and does not establish that everything done on it meets the requirements of Islamic law.

• It removes: swap at rollover, charged or credited.
• It leaves: the spread, commission, leverage, margin and the risk of loss.
• It may add: an administrative charge under the provider’s own terms.

Removing swap answers one question and leaves others open. On each of the following, qualified scholars have reached different conclusions, and this page does not choose between them.

• Leverage. Some regard the provider’s funding of a position as a loan tied to a sale, from which the lender benefits through spreads and commissions, and object to it on that ground. Others regard it as permissible where no interest is charged.
• Settlement. The rule that currencies be exchanged at once is read by some as satisfied when an account is credited immediately, and by others as not satisfied where nothing is delivered and settlement is a matter of book entries.
• Contracts for difference. Because nothing is owned or delivered, some regard a contract that only follows a price as closer to a wager than to a sale. Others distinguish it by its use and its terms.
• Administrative charges. Some accept a fixed fee for a service. Others ask whether a charge that grows with the time a position is held is interest under another name.
• Speculation. Some hold that very short-term trading for price movement alone approaches maysir. Others hold that taking a considered view on a price, with one’s own money at risk, is ordinary trade.

Whether a particular account, used in a particular way, is acceptable is a question about a person’s own religious obligations. A provider cannot settle it by naming an account, and a general page cannot settle it at all.

The person to ask is a scholar qualified in Islamic commercial law whom the reader trusts, with the provider’s actual terms in hand: what is charged in place of swap and when, which instruments are covered, how positions are funded and settled, and what happens if the option is withdrawn.

It is also a financial question in the ordinary way. A swap-free account carries every risk of leveraged trading. Removing interest does not remove the possibility of losing the money placed in the account.