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Here I would like to point out a few things that halal traders need to know about short-selling. I’ve been trading for a few years, but I’m neither an expert nor a scholar on this topic. After I listened carefully to the different opinions of scholars and trade experts, I decided to write my conclusions. Hopefully, this will be interesting to other traders who are currently looking for halal trading opportunities and I hope you would correct me if I’ve had any mistake.
We know that short-selling is the practice where an investor sells shares that he does not own at the time of selling them. He sells them in the hope that the price of those shares will decline, and he will profit by buying back those shares at a lower price.
Actually, it is a way to profit off of your expectations that the price of a particular stock is going down shortly. Shorting a stock is simply the opposite of having a long position in the stock. Having a long position in the stock means that you’re buying it at a price and you’re hoping that you can sell it at a higher price later. Having a short position in the stock means that you’re hoping to sell at a high price and then buy at a lower price.
We saw short-selling fell under heavy scrutiny during the global financial crisis of 2007 and 2008. Since that time short-selling has been either forbidden or curtailed in some countries. In India, you can short any stock during trading hours but you will need to cover it back before the end of that trading day. There are few stocks which fall under the category Trade-to-trade (T2T) or T segment in which no intra-day trading is allowed. So each trade results in delivery for shares falling in that segment.
When you sell first, you essentially borrow it from someone else in the market, and when you buy it back, you return the share. Let us take TATAMOTORS stock, for example. Suppose TATAMOTORS stock is currently trading at RUPEES 100 per share. Now upon my analysis, I conclude that the fair price of TATAMOTORS stock should be 50 rupees a share because I guess it’s overvalued right now. Suppose we’re at time 10 am and I think that it’s probably going to be RUPEES 50 a share at 10.45 am. I go to a broker and I say “hey let me borrow one share of TATAMOTORS stock”. The one share is just to make things easy to explain. The broker says “Okay, here’s your one share of TATAMOTORS stock and I’m going to charge you a fee because I’m letting you borrow this share from me and now you owe me one share of TATAMOTORS stock”. I take my one share of TATAMOTORS stock that I borrowed from the broker and I sell it at market price which currently at 10 am is RUPEES 100. Now I’m hoping that the price of a share of TATAMOTORS stock falls and I owe the broker one share of TATAMOTORS. I’m hoping it falls so I can buy it again at less than the hundred rupees that I sold it for and I could keep the difference as a profit for me. Let’s say at time 10.45 am the price of one share of TATAMOTORS stock is RUPEES 50 exactly as I predicted. I buy the one share of TATAMOTORS and I return it to the broker. I keep the RUPEES 100 that are the proceeds from the sale and the difference of RUPEES 50 for me as profit.
When you short a stock, it works so seamlessly that you will not even realise that you are borrowing it from someone else. Let us consider another scenario that the price of TATAMOTORS stock actually rose at time 10.45 and it reached 150 rupees and I have to cover my short position then I have to buy TATAMOTORS stock for the hundred and fifty rupees to return it to the broker. In this case, I’ve lost fifty rupees in this transaction. I made RUPEES 100 when I sold it but then I had to buy it again for a hundred and fifty so I lost fifty rupees.
Hopefully, You’ve got a sense of how shorting works. Now let’s talk about whether shorting a stock is halal or haram. Most scholars agree that shorting a stock is haram and they say typically three different arguments. The first argument is that selling something you’ve borrowed as is the case with a short-seller who borrows stock from the broker and then sells that they borrowed without having ownership of that thing this is haram. You can’t sell something that you borrowed.
It was narrated that Hakeem ibn Hizaam (may Allah be pleased with him) said: I came to the Messenger of Allah (blessings and peace of Allah be upon him) and said: A man may come to me wanting to buy something that I do not possess; should I buy it for him from the marketplace then sell it to him? He said: “Do not sell that which you do not possess.”
Narrated by at-Tirmidhi, 1232; an-Nasaa’i, 4613; Abu Dawood, 3503, Ibn Maajah,2187, Ahmad, 14887. Classed as saheeh by al-Albaani in Irwa’ al-Ghaleel, 1292.
It was narrated from Tawoos from Ibn ‘Abbaas (may Allah be pleased with him) that the Messenger of Allah (blessings and peace of Allah be upon him) forbade selling foodstuff until one has received it in full. I [the narrator] said to Ibn ‘Abbaas: Why is that? He said: Because they are exchanging dirhams for dirhams, but the delivery of food is delayed?
Narrated by al-Bukhaari, 2132; Muslim, 1252
Ibn Hajar said in Fath al-Baari, 4/349:
What is meant is that he was asking about the reason for this prohibition, and Ibn ‘Abbaas replied that if the purchaser sells it before taking possession of it when the item is still in the possession of the seller, it is as if he sold dirhams for dirhams. This is explained by what is mentioned in the report of Sufyaan from Ibn Tawoos that is narrated by Muslim. Tawoos said: I said to Ibn ‘Abbaas: Why is that? He said: Don’t you see that they are exchanging gold, but the delivery of food is delayed? i.e., if he buys foodstuff for one hundred dinars, for example, and he gives the money to the seller but does not take the foodstuff from him, then he sells the foodstuff to someone else for one hundred and twenty dinars and takes it from him when the food is still in the possession of the (first) seller, then it is as if he sold one hundred dinars for one hundred and twenty dinars, it looks as if he sold one hundred dinars for one hundred and twenty. According to this interpretation the prohibition is not restricted only to foodstuffs. Hence Ibn ‘Abbaas said: I think that all things are like this. And this is supported by the hadeeth of Zayd ibn Thaabit, according to which the Messenger of Allah (blessings and peace of Allah be upon him) forbade selling a product in the place where it was bought until the merchants have taken it to their own places.
Naturally, you could see controversies on this, whether it is applied on stocks or not. I wouldn’t like to focus on these controversies. If you think the explanation is not enough, you could learn them all and educate yourself.
The second argument relates to RIBA (Interest). This argument is that when the broker is letting the short seller borrow a stock by charging a fee. The argument is that this fee is actually RIBA and again there’s some controversy about this as well whether this fee is RIBA or not so.
The third argument is creating risk without any prospects of creating any value that corresponds with the risk you are creating. For example, when you open a business you’re creating risks that didn’t exist before, but there are prospects of creating value that can justify the risk that you’re creating through starting a business and the value is represented by the goods and services that you are attempting to offer through the business. In short, selling what we have is the creation of risk with no prospects of creating any value. sometimes it often creates negative value through the overshooting on the way up and overshooting on the way down of prices for the different stocks that are shorted.
Let us consider a short seller, Sujith borrows one share of TATAMOTORS from Faheem and then Sujith sells it to Kareem in exchange for cash. Now, who is bearing the price risk of that single share of TATAMOTORS?. In fact, Faheem bears that risk because he is still the owner. Kareem also bears that risk because he is too an owner of that same share of TATAMOTORS. The reason why this is possible is that Sujith sold something that he borrowed. By short selling the share, Sujith created a lot of risks that didn’t exist previously in the market. Even if there is some value in shorting a stock that value nowhere near justifies the risk that is being created with short selling.
so I would say to absolutely stay away from short-selling. I see it as creating an unnecessary risk that has no prospects for creating any value in return. I’m only a student on these topics, I’ve just said these all are based on my reading and understanding so now you have to educate yourself .Allah knows best.
