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KembaraXtra – Islamic Derivatives: Does Cash Settlement Exist in Options? (Detailed Analysis)
🔹 Short Answer
👉 Yes, cash settlement also exists in option contracts.
🔹 What is Cash Settlement in Options?
👉 Instead of buying or selling the actual asset,
👉 The option holder receives or pays the difference between market price and strike price in cash
🔹 How It Works
At expiry (or exercise):
👉 Then:
✔ No actual goods or assets are exchanged
🔹 Case Analysis (Call Option 🌴 Palm Oil)
📌 Setup
📅 Scenario: Price Rises to RM4,500
👉 Difference = RM500
👉 Net profit:
✔ No palm oil is delivered
📅 Scenario: Price Falls to RM3,800
👉 Loss = RM50 (premium) ❌
🔹 Case Analysis (Put Option 🌴 Palm Oil)
📌 Setup
📅 Scenario: Price Falls to RM3,500
👉 Difference = RM500
👉 Net profit:
📅 Scenario: Price Rises to RM4,300
👉 Loss = RM50 (premium) ❌
🔹 Important Difference from Futures
👉 So:
🔹 Why Cash Settlement Is Common in Options
🔹 Shariah Perspective (Important)
Cash settlement in options raises concerns:
👉 This strengthens the view that options are not Shariah-compliant
🔹 Simple Summary
🔹 Short Answer
👉 Yes, cash settlement also exists in option contracts.
- Just like futures, options can be settled by:
- Physical delivery, or
- Cash settlement
🔹 What is Cash Settlement in Options?
👉 Instead of buying or selling the actual asset,
👉 The option holder receives or pays the difference between market price and strike price in cash
🔹 How It Works
At expiry (or exercise):
- Compare:
- Market price
- Strike price
👉 Then:
- Pay or receive the difference only
✔ No actual goods or assets are exchanged
🔹 Case Analysis (Call Option 🌴 Palm Oil)
📌 Setup
- Strike price = RM4,000
- Premium = RM50
📅 Scenario: Price Rises to RM4,500
👉 Difference = RM500
- Instead of buying palm oil:
- You receive RM500 in cash
👉 Net profit:
- RM500 − RM50 = RM450 ✅
✔ No palm oil is delivered
📅 Scenario: Price Falls to RM3,800
- Option not exercised
👉 Loss = RM50 (premium) ❌
🔹 Case Analysis (Put Option 🌴 Palm Oil)
📌 Setup
- Strike price = RM4,000
- Premium = RM50
📅 Scenario: Price Falls to RM3,500
👉 Difference = RM500
- You receive RM500 in cash
👉 Net profit:
- RM500 − RM50 = RM450 ✅
📅 Scenario: Price Rises to RM4,300
- Option not exercised
👉 Loss = RM50 (premium) ❌
🔹 Important Difference from Futures
- Futures:
- Both parties must settle (obligation)
- Options:
- Buyer has a choice (right, not obligation)
👉 So:
- Cash settlement in options happens only if exercised
🔹 Why Cash Settlement Is Common in Options
- Easier than handling real goods
- Faster settlement
- Used in financial markets (stocks, indices, commodities)
🔹 Shariah Perspective (Important)
Cash settlement in options raises concerns:
- ❌ No real ownership or delivery
- ❌ Trading based on price differences
- ❌ High speculation (maisir)
- ❌ Uncertainty (gharar)
👉 This strengthens the view that options are not Shariah-compliant
🔹 Simple Summary
- Yes, options can be cash-settled
- Profit = difference between market price and strike price
- No actual asset is exchanged
- Buyer chooses whether to exercise
- ❌ Considered problematic in Islamic finance
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