Ra’fat T. Al-Jallad
Department of Finance, An-Najah National University, Nablus, Palestine.
*Corresponding author: Ra’fat T. Al-Jallad
The growth of the Islamic capital market depends on the success in developing and structuring risk management products, in particular financial derivative securities that are Shari’ah compliant. The financial engineering industry succeeded in developing Islamic derivatives that provide the same economic benefits provided by conventional counterparts and that are Shari’ah compliant. The developed securities include: Islamic Profit Rate Swap(IPRS), Islamic Cross Currency Swap (ICCS) and others. The pricing and valuation of Islamic derivatives follows the same mechanisms that are used to price the conventional derivatives. A major input to the pricing is the discount rate or equivalently, the profit rate in Islamic finance. This paper examinesthe effect of misspecification of the profit rate on the pricing and valuation of Islamic derivatives in the context of Islamic Profit Rate Swap. The paper employs a case of an Islamic profit rate swap contract where two widely accepted benchmark rates are used to price the contract namely LIBOR and Government bond yields. The results which indicate that the variations in benchmark rates lead to very large variations in the cash flow profiles of the contract’s counterparties lead to a conclusion that the development of an innovative Islamic benchmark rate that is universally acceptable and applicable is necessary for the continuous development of Islamic capital market.
Abken, P.(1993). Valuation of Default-Risky Inetrest-Rate Swaps. Advances in Futures and Options Research,6, 93-116.
Bacha, O. I.(1999). Derivative Instruments and Islamic Finance: Some Thoughts for a Reconsideration. International Journal of Islamic Financial, 1(1), 9-25.
Duffie, D. S. K.(1997).An Economteric Model of the Tem Structure of Interest-Rate Swap Yields. Journal of Finance,52(4), 1287-1321.
Jallad, R. T.(2015). WhatIs Missing in Pricing Sukuk Securities?. European Academic Research, III(2), 1772-1773.
Khan, M. F.(1991).Time Value of Money and Discounting in Islamic Finance. Review of Islamic Economics,1(2), 35-45.
Kunhibava, S.(2010). Derivatives in Islamic Finance. Research Paper (No:7/2010), International Shari’ah Research Academy for Islamic Finance (ISRA), 1-55.
QFinance.(2010).Islamic Finance: Instruments and Markets. 1st ed. London: Bloomsbury Information Ltd.
Ravindran, R., Munusamy, S.,& Mohd Helmi, M. H.(2011). Basic Pricing Methodology For Islamic Profit Rate Swap. Global Journal of Management and Business Research,11(5), 37-49.
How to cite this paper
The Effect of Innovative Islamic Profit Rate Benchmark on Pricing Islamic Derivatives Securities
How to cite this paper: Al-Jallad, R. T. (2018). The Effect of Innovative Islamic Profit Rate Benchmark on Pricing Islamic Derivatives Securities. The Educational Review, USA, 2(8), 427-431.