Shari‘ah and legal issues in stock trading in Pakistan

Abstract

Stock trading provides an important business avenue for stock investors to earn profit while boosting the national economy. In Pakistan, it is regulated and governed by a robust legal framework, though various Shari’ah and legal issues need to be addressed. This study analyses and examines Shari’ah and legal issues in stock trading practices at pre-stock trading, actual stock trading and post-stock trading and recommends ways to resolve these issues. The methodology used is primarily legal doctrinal, supplemented by qualitative methods, including 26 structured interviews with Shari’ah advisors, legal experts, market participants including stock investors and brokerage firms and regulators to validate the findings. In pre-stock trading, the key Shari’ah issues include conflict of interest and the handling of stock investors' funds. The study highlights the necessity for the brokerage firm to avoid conflict of interest and properly handle stock investors’ funds, which should be treated as amanah (trust). To resolve these issues, it is recommended to disclose conflict of interest to stock investors and monitor unusual trading practices to prevent commission-driven trading. In actual stock trading, the key Shari’ah issues cover intraday trading and market manipulation. The study finds that intraday trading is generally deemed impermissible due to a lack of possession and market manipulation is prohibited under Shari’ah for misrepresentation and artificial price inflation. To address these issues, it is recommended limit intraday trading size and enforce stricter actions against market manipulation. In post-stock trading, the key Shari’ah issues involve the status of the clearing house and the T+2 settlement cycle. The study finds that the clearing house acts as a sub-agent and T+2 settlement may defer delivery which is generally not permissible. To mitigate these issues, it is recommended to adopt AAOIFI standards for clearing houses and implement a T+0 settlement for same-day transactions. Moreover, in pre-stock trading, the key legal issues include misuse of stock investors' funds and non-segregation of accounts. The study finds that these practices violate existing regulations, with brokerage firms misusing stock investors' funds for their own business and failing to segregate accounts. To resolve these issues, it is recommended to ensure asset segregation and enforce strict penalties for non-compliance. In actual stock trading, the key legal issues cover market manipulation and insider trading. The study finds that market manipulation and insider trading are illegal, with penalties outlined in various regulations. To address these issues, it is recommended to enhance monitoring and penalties for market manipulation and improve enforcement against insider trading. In post-stock trading, the key legal issues involve non-transfer of stocks to CDC account and unauthorized movement of stocks. The study finds that non-compliance with transfer regulations and unauthorized stock movements pose legal risks. To mitigate these issues, it is recommended to implement robust monitoring for CDC account transfers and enhance oversight for stock movements. It is anticipated that, by implementing the proposed recommendations, stock trading practices in Pakistan will be free from any Shari’ah and legal issues.