CREATING A TWO-WAY MARKET VIA SHORT SELLING AND ITS POTENTIAL USE IN THE ISLAMIC PARADIGM

Abstract

Short selling is the selling of a security that the seller does not own. In conventional finance, the ability to short is considered an important element
of an efficient and complete market. For most Muslim scholars, however,
short selling is deemed undesirable when read in conjunction with the
HadÊth lÉ tabiÑ mÉ laysa Ñindaka, which carries a verbatim meaning of sell
not what is not with you. There are, however, alternative interpretations of
this Hadith that may justify the use of covered short selling as one of the
legitimate instruments in the Islamic paradigm. Covered short selling,
which entails borrowing a security for the purpose of shorting it, may be
used efficiently to lower asset prices, as theorized by Miller (1977). This
paper discusses about the short selling mechanism and argues that short
selling may be beneficial to consumers in an Islamic market as it creates a
two-way market mechanism and can be used to stabilize asset prices.