Sharia derivative standard out by year-end-IIFM

* First master Islamic derivative possible by end year

* Islamic scholars still divided on derivative use

By Cecilia Valente

LONDON, Sept 10 (Reuters) - The first template for over-the-counter derivatives compliant with Islamic law could be in place by year-end, allowing quicker and cheaper Islamic risk management, one of the institutions involved in its creation said.

Ijlal Alvi, CEO of the International Islamic Financial Market (IIFM), told Reuters he hoped the master-contract, originally expected earlier this year [ID:nLB438463], would be approved by its scholars panel within the next three months.

"It is happening. We are working internally and with some banks as well," Alvi said in an interview on Wednesday.

The contract -- to be known as Ta'Hawwut or hedging -- would create a standard legal framework for OTC derivatives in the Islamic market, whereas currently contracts are arranged on an ad hoc basis.

OTC derivatives, or swaps, are privately negotiated deals between investors and counterparties and are commonly used to hedge against interest rate risk and default risk. The total notional amount of OTC deals outstanding was nearly $592 trillion at end-2008, according to the Bank for International Settlements.

Islamic institutions have limited access to derivative products mainly because Islamic law requires the underlying assets in any transaction to be tangible, virtually excluding most of the mainstream derivatives instruments.

Islamic scholars are split on the legitimacy of derivatives; some see them as permissible instruments to hedge risks but others as speculative transactions, which Islam forbids.

Some Islamic operators have used a contract known as Arbun to replicate call options.

"We are waiting for approval from the sharia board -- this work is now reaching finalisation. We are very hopeful it will be by the end of the year," Alvi said.

The IIFM, which was founded by the central banks and monetary agencies of some countries in the Middle and Far East as well as the Islamic Development Bank, has been working with the International Swaps and Derivatives Association (ISDA).

ISDA was not immediately available for comment. (Reporting by Cecilia Valente, Editing by )

Link: http://www.reuters.com/article/rbssFinancialServicesAndRealEstateNews/idUSL901001820090910