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Fatwa on Islamic Hedging

National Sharia Board

Indonesian Council of Ulama

Definition

• 1. Hedging (al-Tahawwuth / Exchange Rate Hedging) is a means or technique to reduce the risks that arise and which are expected to arise from the fluctuation of the exchange rate;

• 2. The Islamic Hedge (al-Tahawwuth al-Islami / Islamic Hedging on the Exchange Rate) is a Shariah-compliant method or hedging technique;

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Islamic Hedging Transaction

• Islamic Hedging Transaction (al-Tahawwuth al-Islami / Islamic Hedging) on Exchange Rates based on real needs (al-hajah almassah) is allowed subject to the provisions of this fatwa. – 1. Islamic Exchange Rate Hedging Transactions may

utilize any of the following contracts • a. 'Aqd al-Tahawwuth al-Basith; • b. 'Aqd al-Tahawwuth al-Murakkab; • c. ‘Aqd al-Tahawwuthfi Suq al-Sil’ah;

– 2. Hedging can be conducted under the contract as referred to in item 1 above shall apply the provisions of this fatwa.

Mechanism

1. The mechanism of Islamic Hedging Transaction of the Exchange Rate with ‘Aqd al-Tahawwuth al-Basith is as follows:

– a. the parties mutually promise (in writing), either in writing or verbal, to conduct one or more future Spot Agreements which include an agreement on: • (1) Currency traded, • (2) the nominal amount, • (3) exchange rate or

exchange rate calculation, and

• (4) execution time;

• b. at the time of execution, the parties make Spot Transactions (ijab-qabul) with 'agreed price followed by the handover of the currency that is exchanged

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Mechanism

• 2. The Mechanism of Islamic Exchange Rate Hedging Transactions with 'Aqd al-Tahawwuth al-Murakkab is as follows: – a. the parties make Spot Transactions; – b. the parties promise each other (muwa'adah) to conduct a one-time

Spot Deal or more in the future which includes an agreement on: • (1) Currency traded, • (2) nominal amount, • (3) exchange rate or exchange rate calculation, and • (4) execution time;

– c. at the time of execution, the parties conduct Spot Transactions (ijab-qabul) at an agreed price followed by handover of the currency that is exchanged

• 3. The Mechanism of Islamic Hedging Transactions on Exchange Rates with 'Aqd al-Tahawwuth bi al-Sil' ah is as follows:

Mechanism 1

• First Transaction:

• 1) Consumer Commodities having foreign currency obligations shall make a reservation and pledge (wa'd) to buy the Sii'ah in cash, gradually or resilient to the Commercial Participant in the delivered currency;

• 2) Based on the reservations referred to in number 1) above, Commercial Participants shall purchase sil'ah in cash from a number of Commodity Trader Participants in the delivered currency;

• 3) Commercial Participants shall receive documents of ownership in the form of Letter of Authorization on Approved Commodity (SPAKT) issued by Islamic Commodity Exchange as proof of purchase of commodity;

• 4) Consumers Commodities buy sil'ah from Commercial Participants with purchase of murabahah in currencies submitted, the payments are made in cash, gradually or in a fit manner agreement, and followed by the handover of ownership documents;

• 5) The Commodity Consumer sells cash in cash to the Commodity Trader Participant in the delivered currency;

a. The Islamic Commodity Exchange facilitates the actors of Islamic hedge transactions on the exchange rate to conduct transactions on the sil’ah at the Islamic Commodity Exchange; b. The parties conduct two silk transactions in sequence:

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Mechanism 1 cont’d

• Second Transaction: – 1) Consumer of Commodity (IFIS or

Customer) grants the power (akad wakalah) to Commercial Participants to buy sil'ah in cash in the delivered currency;

– 2) Based on the above wakalah agreement, the Commercial Participant represents the Commodity Consumer buying sil'ah by cash from a number of Commodity Trader Participants in the delivered currency;

– 3) Consumer of Commodity receives documents of ownership in the form of Letter of Control on Commodity Agreed (SPAKT) issued by Islamic Commodity Exchange as proof of purchase of commodity;

– 4) a Commercial Participant buys a silver from a Commodity Consumer with a sale of murabahah in the accepted currency, whose payments are made in cash, gradually or in accordance with the agreement, followed by the transfer of ownership documents;

– 5) a Commercial Participant sells a sil'ah in cash to a Commodity Trader's Member in the delivered currency;

– 6) Consumer of Commodity receives currency received from Commercial Participant in order to fulfill its obligation to other party and submit currency submitted to Commercial Participant.

Consumer Commodity

Wakalah

Consumer Participant

Commodity Trader Participant

Buy Document

Consumer Participant

Commodity Trader Participant

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Mechanism 2 a. The Islamic Commodity Exchange facilitates the actors of Islamic hedge transactions on the exchange

rate to conduct transactions on the sil’ah at the Islamic Commodity Exchange;

b. b. The parties made two silk transactions in sequence:

• First Transaction:

– 1) Consumer Commodities having foreign currency obligations shall make reservations and promise (wa'd) to purchase such sil'ah in cash, gradually or resilient to the Commercial Participant in the delivered currency;

– 2) Based on the reservations referred to in number 1) above, Commercial Participants shall purchase sil’ah in cash from a number of Commodity Trader Participants in the delivered currency;

– 3) Commercial Participants shall receive documents of ownership in the form of Letter of Authorization on Approved Commodity (SPAKT) issued by Islamic Commodity Exchange as proof of purchase of commodity;

– 4) Consumers Commodities buy sil'ah from Commercial Participants with a sale of murabahah agreement in the delivered currency, whose payments are made in cash, in stages, or in accordance with the agreement, followed by the transfer of ownership documents;

– 5) The Commodity Consumer sells cash in cash to the Commodity Trader Participant in the delivered currency;

Mechanism 2 – cont’d

• Second transaction: – 1) Consumer of Commodity (IFIS or Customer) grants the power (akad wakalah) to

the Commercial Participant to buy sil'ah in cash in the received currency; – 2) Based on the above wakalah agreement, Commercial Participant representing

Consumer of Commodity buys sil'ah in cash from a number of Participant of Commodity Trader in accepted currency;

– 3) Consumers of Commodities shall receive documents of ownership in the form of Letter of Authorization on Approved Commodity (SPAKT) issued by Islamic Commodity Exchange as proof of purchase of commodity;

– 4) a Commercial Participant buys a silver from a Commodity Consumer with an acceptable sale of murabaha in the currency received, in which the payments are made in cash, gradually or in a conscientious manner, followed by the transfer of the documents of the memorandum;

– 5) Commercial Participant sells cash in cash to the Commodity Trader in the received currency;

– The Commodity Customer receives the currency received from the Commercial Participant in order to fulfill its obligations to the other party and submits the currency submitted to the Commercial Participant.

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Dawabit, restriction

• In the Islamic Hedging Transactions on the Exchange Rates the following restrictions and conditions apply: – 1. Islamic Hedging Transactions

on Exchange Rates shall not be made for purposes of a speculative nature;

– 2. Islamic Exchange Rate Hedging Transactions should be made only where there is a real need to reduce future exchange rate risks against unavoidable foreign currencies.

– 3. The right to exercise of muwa'adah in hedging mechanism shall not be traded;

– 4. Islamic Exchange Rate Hedging Transactions can only be made to mitigate risks of: • a. The risk exposure facing

Islamic Financial Institutions due to unbalanced assets and liabilities positions in foreign currencies;

• b. Obligations or claims in foreign currency arising from activities consistent with sharia principles and applicable laws and regulations in the form of

– (i) Trade in goods and services at home and abroad;

– and (ii) direct investment investment, loans, capital and other investments at home and abroad.

Dawabit, Restrictions

• 5. The actors of the Islamic Exchange Rate Hedging transaction on the are among others: – a. Islamic Financial Institution

(IFI); – b. Conventional Financial

Institution (CFI) only as receiver of hedge from IFI;

– c. Bank Indonesia; – d. Business institutions that

do not conflict with sharia principles;

– e. Other parties whose activities are in accordance with applicable laws and regulations;

• 6. Exchange rate or exchange rate calculation must be agreed upon at mutual promise (muwa'adah);

• 7. The settlement of hedging transactions, in the form of handover of currencies at maturity is done in full (full commitment). Mutual transaction settlement (netting) is only allowed in the event of roll-over, roll-back, or transaction cancellation caused by the change of hedging object.

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Dispute Settlement

• Settlement of disputes between the parties can be made through consensus deliberation. If deliberation of consensus is not reached, then dispute settlement is done through dispute settlement institution based on sharia according to prevailing laws and regulations.

Wallahu a’lam