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Commodities are one of the world's oldest markets and part of today's modern financial system. Commodity trading will always exist because commodities are essential to making the products we all use. Nearly every retail broker worldwide offers clients access to multiple tradeable commodities. Muslims wanting to trade commodities must consider the best way to do so that aligns with their faith and Shariah law.
Let's explore:
What commodities are
Shariah principles in financial trading
What Shariah law says about commodity trading
How to ensure Shariah compliance in commodity trading
Top Forex Brokers1 Get Started 74% of retail CFD accounts lose money What Are Commodities?
When people talk about“commodity markets ,” they usually mean trading raw materials or primary agricultural products. Commodity markets are necessary to the global economy, as they allow the buying and selling of essential goods that serve as the building blocks for the products and services that we all use. Think about the cars we drive, the homes in which we live, the computer on which I am typing this article, or the bread I ate or the coffee I drank this morning: they all consisted of raw materials-gold, copper, aluminum, crude oil, wheat, coffee beans, i.e., commodities that other humans processed into final working products that allow me and others to live our lives.
Commodities typically fall into two categories: hard commodities and soft commodities, and each has subcategories Commodities
Energy commodities:
Crude oil (two major types are West Texas Intermediate and Brent crude) Ethanol Gasoline Natural gas Heating Oil Coal Energy
Metals:
Precious metals (Gold, Silver, Platinum, and Palladium) Base metals (Copper, Aluminum, Zinc, Lead, Tin, and Nickel)
Soft (Agricultural) Commodities
Softs: Coffee, Sugar, Cotton, Cocoa, Orange juice, Lumber, Wool, Rubber
Grains: Wheat, Corn, Soybeans, Rice, and Oats
Oilseeds: Soybean Oil, Soybean Meal
Livestock: Live Cattle, Feeder Cattle, Lean Hogs
Dairy: Milk, Cheese, Butter, Non-fat Dry MilkThe Role of Commodity Exchanges
Centralized exchanges facilitate a significant portion of the world's commodity trading through futures contracts or spot transactions. Many countries have commodity exchanges, the largest being the Chicago Mercantile Exchange (CME), the New York Mercantile Exchange (NYMEX), and the Intercontinental Exchange (ICE), all of which traders can access internationally through brokers.
Shariah Principles in Financial Transactions
Shariah financial principles outline a code of conduct for Muslims to conduct financial transactions according to Islamic teachings. The principles rest on a foundation to create an economic system that is just, fair to all parties, and beneficial to society.
Let's look at the most central ideas that the Shariah puts forward for financial transactions:
Money is a medium of exchange: Islamic teachings do not consider money as an asset in its own right but rather as purely a medium of exchange used to buy things. This is one of the most central Shariah financial principles, and the Shariah derives many other concepts from it.
Islamic prohibition of paying or charging interest (Riba): Given money is a medium of exchange under Shariah and not an asset, an exchange of goods or services must accompany monetary transactions. Interest payments do not fulfil this condition because interest is a charge of“money on money” with no underlying economic activity. Hence, the Shariah prohibits interest.
An exchange of goods and services should accompany monetary transactions. Again, this idea stems from the central principle that money is a medium of exchange to facilitate economic activity rather than an intrinsic asset.
Prohibition of uncertainty or ambiguity (Gharar): Contract terms should be clear, precise, and known to all parties. Risk should be reasonable in financial transactions.
Investing in businesses involved in haram activities: for example, investing in companies that pay and charge interest, such as banks and companies that produce alcoholic or pork products.
Proportionate risk sharing: The share of risk should be proportionate amongst parties accounting for their share of inputs or investments in a financial transaction. Shariah also prohibits interest because it views it as an exploitative practice favoring the lender at the borrower's expense because the lender takes on little to no risk.
Proportionate sharing of profit and losses: As with proportionate risk sharing, the distribution of profit and losses should align with the inputs of capital or expertise.
Prohibition of Gambling (Maisir): Gambling generally has no underlying commercial purpose (for example, no exchange of goods or services). It's also prohibited because it can be addictive and be used to exploit others, giving it an element of unjust gain at the expense of others. Maisir's definition can also expand to speculative activities that create wealth without corresponding effort or value addition.
What Does Shariah Law Say About Commodity Trading?
Like the question: Is Forex trading haram or halal in Islam , Islamic scholarly opinions vary regarding commodity trading through a broker or in modern markets. Let's look at both sides:Why Some Scholars Believe Commodity Trading Is Haram
Commodity contracts have high leverage and can be considered Gharar, i.e., excessively risky. Leverage amplifies profits and losses. Although leverage allows individuals to enter a trade with smaller amounts of capital, i.e., margin trading, an adverse move can wipe out the margin or value of the account.
Most commodity trading is through futures contracts. Many (but not all) scholars consider futures haram because they feel they are speculative and more closely resemble gambling rather than facilitating the exchange of goods and services. Also, most commodity futures incur interest for open positions longer than one day.
Spot commodity contracts track the underlying commodity prices but do not exchange the commodity. This is the case with Contracts for Difference (CFDs) for example. Some scholars view this as gambling on the commodity price because it does not produce an exchange of an asset Some Scholars Believe Commodity Trading Is Halal
Trading most physical commodities is intrinsically halal. Commodities are used as physical materials in their own right and as inputs to produce other goods and services. Buying and selling commodities by itself is halal. The key exception would be a commodity such as lean hog because it is a pork-based product
Commodity futures trade through regulated exchanges. These have clear and precise terms known to all parties, transparent trade execution and pricing, and up-to-the-second pricing. These are essential elements to avoid Gharar.
Trading commodity futures facilitates the trade and movement of physical assets and helps with“price discovery,” i.e., the activity helps assets find their correct value.
Trading commodities is not a game of chance, like gambling. Economic forces control commodity prices, which have intrinsic value to Ensure Shariah Compliance in Commodity Trading
Here are some practices and guidelines for Islamic income commodity trading:
Avoid haram commodities, such as pork-based commodities.
Look for an Islamic trading account that avoids interest-based fees (swaps, rollovers, etc.). The best commodity brokers today offer Islamic trading accounts. Like the best Islamic Forex brokers, they are reputable, well-regulated, and offer excellent trading conditions.
Trade spot contracts rather than futures contracts. Although not all Islamic scholars consider futures trading haram, in comparison, spot trading is universally considered halal Take
Shariah financial principles exist to ensure a fair and just economic system where parties do not exploit others in transactions, dealings are precise and unambiguous, and economic activity benefits society at large. Commodity trading helps facilitate the trade of raw materials used in producing goods that benefit much of society. Brokers and exchanges offer clear contract terms with transparent pricing and trade execution. For those reasons, many Islamic scholars consider commodity trading halal. However, many scholars also dispute whether futures and options contracts are halal or haram. The best way to be Shariah-compliant in commodities trading is to use a spot-based Islamic commodities account that avoids any interest payments for overnight positions.
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