Dubai market takes lead in short selling

The Dubai Financial Market stock exchange is spearheading a practice called covered short selling.

A January 3 2017 press release says the market, the only listed exchange in the gulf, will implement this type of regulated short selling for specific securities, partially as a way to help with its trade liquidity.

With covered short selling, investors borrow shares and strategically sell them to benefit from drops in equity value.

In the first quarter of 2017, exchange traders will be experimenting with the shorting, which some critics say could destabilize particular markets, even as other gulf countries, including Saudi Arabia and Qatar, have expressed interest in following Dubai's lead.

The practice of short selling has been tolerated in gulf markets for a while.

A November 2015 article in National Business points out that while some GCC governments have regulated short selling in their markets, unregulated short selling has been the norm in others.

The article cites possible negative market impacts and results for government assets as major concerns around short selling, and there's also the common notion that short selling, in and of itself, is un-Islamic and prohibited (haram) under Sharia law.

Online, a bevy of pages and sources suggest that short selling is not permitted for a number of reasons, some related to borrowing, other related to risk. This begs the question why short selling is therefore allowed.

This page from EurakeHedge sums up the phenomenon this way:

“While short-selling is not permitted by the Shariah, more and more Islamic institutions and hedge funds claim to offer Shariah-compliant shorting solutions. Islamic short-selling is often being presented as if it were a major innovation or a significant breakthrough for Islamic finance. In reality, however, basically every contract can be ‘Islamised’ using concepts from modern financial engineering. The question is rather how high the transaction costs are, and, especially, whether one regards such mechanics as Shariah-compliant, or as just an undesirable ploy, which strikes at the foundations of the objectives of Islamic finance.”

For more on short selling and its status under the law, the Gulf News Journal spoke with Ammar Amonette, an imam at the Islamic Center of Virginia.

“It's a highly leveraged transaction,” Amonette said, adding that because of its speculative nature, short selling is generally frowned upon. “It’s close to gambling.”

Also, he said, the sale of borrowed shares is one of the practices defined as usury in Islamic law.

“Islamic law doesn't approve of usury-based finance,” Amonette said.

As for the regulation of short selling by markets in the GCC, Amonette suggested that certain market pressures might play a role.

“I would suppose that the purpose is to attract foreign investment,” he said.

Although many scholars say there are issues with short selling under sharia, it seems many of the GCC markets have made their peace with it and other speculative investments, and will find ways to justify such practices to their populations.