So the last thing we need is a zero-coupon bond/money market. This can be hada number of ways including:
Bay al Inah
(sale at spot, resale with deferment and increase)
(basically the same as 'Inah, with a thirdcounterparty)
An Islamic principal protected note is the combination of a Murabaha and Islamiccall options, with maturity and exercise dates set to be identical.
Notes for Prospective Buyers
Once we let the cat out of the hat with a Shariah-compliant call option, and we'vehad a risk-free rate/money-market/zero-coupon bond for some time, combiningthe two was inevitable.The payout will be the original principal + M * max(Price(T)-Strike,0), wherePrice(T) is the price of the equity/commodity at maturity of the note, Strike isusually set to Price(0), today's price, but can be set wherever we like (slightlyharder from a Shariah perspective but should be just fine), and M is themultiplier. We can get anywhere from say around 70% to 120% multipliers (70%-120% of the upside of FTSE 100, say). The multiplier is usually the only figurethat can be manipulated, so we must look to it and compare.While this may appear wonderful to some, we should comment that, unlike morevanilla products (e.g., straight call options, or the zero-coupon bonds), pricing isnot as easy to replicate and it is not absolutely trivial to know whether you aregetting ripped off or not.
Know what you can about pricing.
Try to price the call (with correctstrike) and zero independently.
If the underlying is liquid and calls are traded on it (e.g., calls on oil, calls ongold, etc), then it is likely that only at-the-money (ATM) options are active(i.e., ATM struck at the forward price). Spot-struck options are generally lessliquid, involve pricing on a skew, which you as customer are not as aware of.Expect hidden fees.
If the underlying is liquid but calls are not actively traded (e.g., DJIM Index),the bank will use calls on whatever similar futures that they can get ahold of.The
or the fact that these two indices do not mimic each other exactly--they will charge extra for that. So on top of the skew, you get charged fortheir inability to hedge.
Make sure you know whether dividends are paid to you or are not? Does theindex accrue w/ no dividends? It makes it cheaper for them to pay it to you,and they should pay you that much more (i.e., the multiplier on the upsideshould be larger).