"I believe that due consideration must be given to not only the literal structure of products and processes, but also to their consequences for the future of
Islamic Finance. In other words, while up until now the Shariah supervisory boards of modern Islamic financial institutions have focused almost exclusively on the rules for transacting in compliance with the Shariah, it is now time for them to focus as well on the higher purposes of Islamic law or the maqasid al-Shari`ah."
Yusuf Talal DeLorenzo, The Total Returns Swap and the "Shariah Conversion Technology" Stratagem
Rather than evoke Sadd-al-Dharra'i (prohibition of legitimate means to illigitimate ends), Sh.Yusuf goes into some detail on tracing the cashflows. Unlike LIBOR based products where the LIBOR-linked return is merely the market-cost of capital or fair returns for investments, he shows this product actually enables cashflows for investment in haram activities. Were it not for the Islamic investor's cash, the haram activities would not be invested in. This is very astute, since it is clear that cash and profits flow from the Islamic investor to pork bellies, alcohol, any sort of wierd hedge fund or derivative, etc.
Moreover, Sh.Yusuf explains why Sadd-al-Dharra'i is inapplicable. Rather it can be applied in cases where illicit activities are a probable outcome of any set of halal actions. Then it can be invoked to rule out such action. In this case, the illicit activities occur with absolute certainty and since whatever is required to ensure the performance of a required act is itself required
(لا يتم الواجب إلا به فهو واجب ) and it is required to abstain from illicit acts and thus to abstain from combinations of legal acts that result in illicit activities.
Sh. Yusuf calls the fatwa that supports this the Doomsday Fatwa for Islamic Finance. Why? Because he rights states that doing this swap is easier than going through all the effort of true-sales and lease-backs and SPVs for all the sukuk out there, so why bother? It's just plain cheaper to operate in the conventional space, and then Shariah-wrap (swap) it. It makes all the effort of the past 30+ years for nothing.
This paper does raise the question of the legitimacy of rolling murabahas as a means of synthesizing structured products or the Shariah Compliant Profit Rate Swaps (PRS). LIBOR may be a cost of capital but the payoff of a commodity-linked range accrual requires hedging using commodity options, and again an Islamic Investor is setting off the action that links his cash to haram investments.
Does Islamic Finance run the risk of turning into pure legalistic formalism? In some ways this structure reminds me of the case of Observant Jews on the Sabbath who get a Gentile to light a fire for them and at least in that case there is the benefit of not freezing to death on a cold winter's night.
So what benefit can Islamically "wrapped" pork-bellies give? Do we actually believe in the prohibition on riba or are we just unduly burdened by it? How about the prohibition on Maysir? On other haram investments? What exactly do we believe in?
Stepping Back: Listing Some of the Merits
Is there merit in this structure? The answer should be yes. The criticism cannot be levied at the structure itself--rather the overreachingness of the fatwa.
Sh Yusuf's article does not indicate that he considers the structure itself to be distasteful. It is the use that can be questioned. If, on the other hand, the structure is applied to "compliant" activities, e.g.,
- Cross Currency Swaps
- Fixed for Floating (to reduce/increase duration of liabilities/assets)
- Other hedging where all underlyings are halal (e.g., an Islamic Fund Manager pays DJIM to reduce beta, and receives cash--LIBOR instead, etc).