Derivatives, Pricing Efficiency and Gharar: Evidence on Embedded Options in Malaysia


  • Razali Haron Department of Finance and Graduate School of Management, International Islamic University Malaysia


Derivatives, despites their extensive usage as risk management tools, receive differing arguments among the Muslim scholars. Focusing on embedded option contracts, the resolution of Islamic Fiqh Academy, Jeddah No (63/1/7) under the financial markets considers the currently applied option contracts as different from the Shariah nominated contracts and being neither a sum of money nor a utility or a financial right which may be waived, makes it forbidden in Shariah. Most Islamic scholars accuse option contracts of containing gharar and are transacted for speculative gains thus, prohibited in fiqh muamalat. Therefore, this study intends to investigate the accusation of the gharar elements in the option contracts. The Black Scholes Option Pricing Model (BSOPM) is used to examine the pricing of 183 outstanding embedded options (equity warrants) from January 2006 to December 2012. Cases of mispricing were detected in reference with their theoretical values indicating inefficiency in the Malaysian market and speculative activities taken place which are prohibited in Islam. Speculation contains gharar (uncertainty) and leads to maysir (gambling) and may result in wealth accumulation at the expense of other parties’ jahl (ignorance). Violating the concept of adl (justice), not serving the concept of maslahah (public interest) and not complying with the Maqasid al Shariah make speculation forbidden. The existence of gharar is empirically and statistically evidenced in the speculation activities indicated by the excessive mispricing detected in this study. This study contributes significantly in the literature by providing empirical evidence which is very much lacking in the study of options in Islamic Finance.


Download data is not yet available.


Ahmad Muhayyuddin, H. (1407/1986).AmalSharikat al-Istithmar al-Islamiyyahfilsuq al-Alamiyyah,Al-Dar al-Saudiyyahlil-NashrwalTawzi, 268-271.

Al-Suyuti, Al-Asybahwa al-Naza’ir, Dar al-Kutub al-’Ilmiyyah, Beirut, 1994.

Al-Amine, M.M.A. (2008). Risk Management in Islamic Finance an Analysis of Derivative Instrument in Commodity Market. Brill : The Netherlands.

Al-Bukhari, (1422). Al-Jami’ al- Musnad al Sahih, Dar Tuq al Najah.

Al-Bayhaqi, (1422). Al-Sunan al-Kubra. Beirut: Dar’ al Kutub al ‘Ilmiyah.

Al-Saati, A.R. (2003). The Permissible Gharar (Risk) in Classical Islamic Jurisprudence. J.KAU: Islamic Econ,16(2), 3-19.

Al-Zuhayli, W. (2003). Financial Transaction in Islamic Jurisprudence. Translated by El-Gamal M.A, Damascus: Dar al-Fikr (1).

Abu Sulayman, A.W.I. (1413H/1992). Al-Ikhtiyarat: DarasahFiqhiyyaTahliliyyahMuqaranah, Mujallah al-Buhuth al-FiqhiyyahalMuasarah, 4(15), 32-33.

Anwar, M. (1995). An Islamic Perspective on Capital Markets and “Islamic” Securities in Malaysia. The Pakistan Development Review, 34(4), 865-878.

Black, F. and Scholes, M. (1973). The Pricing of Options and Corporate Liabilities. The Journal of Political Economy, 81(3), 637-654.

Byoun, S. and Park, H.Y. (2009). Arbitrage Opportunities and Efficiency of An Option Market at its Initial Stage: The case of KOSPI 200 options in Korea. Research in Finance, 25, 269-301.

Chan, FL and Sy, M. (1997). Pricing Warrants in Thin Markets: Jump Diffusion vs Modified Black-Scholes in the Kuala Lumpur Stock Exchange, RMIT, Unpublished.

Chang, EC., Luo, X., Shi, L. and Zhang, JE. (2013). Is Warrant Really a Derivative? Evidence from the Chinese Warrant Market. Journal of Financial Markets, 16(1), 165-193.

Chung, S.L., Liu, W.R. and Tsai, W.C. (2014). The Impact of Derivatives Hedging on the Stock Market: Evidence from Taiwan’s Covered Warrants Market. Journal of Banking and Finance, 42 (1), 123-133.

Dubofsky, D.A. (1992). Options and Financial Futures: Valuation and Uses. McGraw-Hill: New York.

El Diwany, T. (2003). The Problem with Interest. Kreatoc Ltd : London.

El Gari, M.A. (1993). Towards an Islamic Stock Market. Islamic Economic Studies, 1(1), 1-20.

Fama, E.F. (1970). Efficient Capital Markets: A Review of Theory and Empirical Work. The Journal of Finance, 25(2), 383–417.

Haron, R. (2006). The Pricing Efficiency of Equity Warrants: A Malaysian Case. The ICFAI Journal of Derivatives Markets, 3(3), 6-22.

Helliar, C. and Alsahlawi, A. (2011). Islamic Derivatives. Journal of Corporate Treasury Management, 4(2), 120-128.

International Shariah Research Academy for Islamic Finance (ISRA) (2011). Islamic Financial System. Principles & Operations. Kuala Lumpur: ISRA.

Jobst, A. and Sole, J. (2012). Operative Principles of Islamic Derivatives-Towards a Coherent Theory,International Monetary Fund Working Paper.

Kamali, M.H. (1997). Islamic Commercial Law: An Analysis of Options. The American Journal of Islamic Social Sciences, 14(3), 17-37.

Kuwahara, H. and Marsh, T.A. (1992). The Pricing of Japanese Equity Warrants. Management Science, 38(11), 1610-1641.

Liu, M.H. and Rangan, N.K. (2011). The Information Content of the Implied Volatility of Retail Equity Option Market. Proceedings of Macao International Symposium on Accounting and Finance.

Macbeth, J.D. and Larry, J.M. (1979). Tests of the Black-Scholes and Cox Call Option Valuation Models. The Journal of Finance, 35(2), 285–301.

Obaidullah, M. (1999). Financial Options in Islamic Contracts: Potential Tools for Risk Management. KAU Journal of Islamic Economics, 11, 3-26.

Obaidullah, M. (2002). Islamic Risk Management: Towards Greater Ethics and Efficiency. International Journal of Islamic Financial Services, 3(4), 30-48.

Obiyathulla, I.B. (1999). Derivative Instruments and Islamic Finance: Some Thoughts for a Reconsideration. International Journal of Islamic Financial Services, 1(1), 9-25.

Obiyathulla, I.B. (2012). Financial Derivatives Markets and Application in Malaysia. Mc-Graw Hill: Kuala Lumpur.

Salehabadi, A. and Aram, M. (2002). Islamic Justification of Derivative Instruments. International Journal of Islamic Financial Services, 4(3), 11-17.

Sukor, M.E.A. and Obiyathulla, I.B. (2010). Pricing Efficiency of Stock Rights Issues in Malaysia. Applied Financial Economics, 20(22), 1751-1760.

Usmani, M.T. (1996). Futures, Options, Swaps and Equity Investments, New horizon, Institute of Islamic Banking and Insurance, 59, 10.




How to Cite

Haron, R. (2014). Derivatives, Pricing Efficiency and Gharar: Evidence on Embedded Options in Malaysia. Journal of Islamic Finance, 3(2), 39–48. Retrieved from