Economy — 15 November 2010
Sell gold for silver as you please, on the spot

Why did the Prophet (saw) demand that transactions involving Gold and Silver and other key commodities be traded on the spot market, ie. Immediately – hand to hand?

It is reported that al-Baraa bin ‘Aazib and Zaid bin Arqam used to be partners, and so they bought silver for money and a deferred payment, and when the Messenger of Allah (saw) heard about this he ordered them with the words “Whatever was paid by money is permitted, and whatever was for a deferred payment must be returned”

Islam set out 1400 years ago trading rules, including key financial instructions which protect the market and its participants. The natural question arises as to how can markets be hurt by non spot trading and immediate delivery of such commodities?

A good example was raised this week by the accusations against large bullion banks using the Comex futures exchange to depress the price of silver – an accusation that has also been raised about the gold market in recent years as well. The “futures” market allows trades in key commodities to be effected for future delivery ie buy or sell now for delivery in 3, 6 or 9 months time. As the trader does not need to have the commodity “to hand” they can simply keep rolling over their trades. In this way concerted and heavy sell orders (without the need to deliver immediately) will naturally force the price down. This is the tactic of short sellers, who sell securities they don’t own (by borrowing or forward dating delivery) with the objective of forcing the price down and then later buying the security at a lower price (and profiting from the difference). Perhaps the worst example of market manipulation via short selling was seen in the Asian financial crisis of 1997 when hedge funds sold Malaysian, Indonesian and other markets in volumes many multiples the size of the actual market. The result being entirely predictable – a massive dive in the value of those markets to the profit of the hedge funds and cost of the local populations.

Another tactic of market manipulators is to place spoof trading orders which can be readily withdrawn before execution of the order, yet the fact and volume of placement will have an immediate impact on the market as it appears that there is a high volume of (usually) sell orders. Again this will depress the overall market price. Some sharp operators have even developed sophisticated electronic trading systems which will instantaneously and advantageously place and withdraw such trades. All possible when the dealer does not need to stump up the actual commodity when placing trade orders.

It is interesting to note that the Shariah rules requiring “hand to hand” on the spot settlement for such important commodities removes completely this type of manipulation and provides a fair and functioning market which is transparent and open. Traders can take confidence in the prices which are agreed between participants as the commodities must be available and settle immediately, leaving no room for attempts to push down prices artificially. It is also interesting to note that despite the protestations raised in the article linked below, nothing will be done to outlaw futures trading and short selling as currently widely practiced.

After an investigation that has taken the best part of two years, on Tuesday, Oct 26, Bart Chilton, a commissioner at the U.S. CFTC said there had been repeated attempts to influence prices in silver markets. The Commodity Futures Trading Commission began probing allegations of price manipulation in the silver futures market in September 2008. At a hearing in Washington on Oct. 27, CFTC Commissioner Bart Chilton said there have been “fraudulent efforts to persuade and deviously control” silver prices and that violators should be prosecuted.

According to an article published on Bloomberg on Oct. 28, both JP Morgan and HSBC Holdings have been accused in an investor’s lawsuit of placing “spoof” trading orders to manipulate silver futures and options prices in violation of U.S. antitrust law. The investor alleges that starting in March 2008, the banks colluded to suppress silver futures so that call would decline, and put options would increase, according to the complaint filed in a federal court in Manhattan. The collusion was also intended to maintain prices at levels at which some options would expire as worthless. The banks placed so-called spoof trading orders, or the “submission of a large order which is not executed but influences prices and is then withdrawn before it reasonably can be executed,” according to the complaint.[1]


[1] http://www.mineweb.com/mineweb/view/mineweb/en/page32?oid=114217&sn=Detail&pid=102055

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