Modern Islamic Banking

CHAPTER 9The Role of the London Metal Exchange

The underlying asset for commodity murabaha and tawarruq transactions is more often than not a base metal such as aluminium or nickel. The base metals are generally associated with the London Metal Exchange (LME), which is due to the fact that the exchange is by far the largest player in the market. Although not a physical market, the LME controls the issuance of warrants that represent ownership of the metal. The commodities in a commodity murabaha and tawarruq transaction are often referred to as “LME base metals” even though in their current form the contracts that are traded on the exchange are not an appropriate underlying asset to a transaction, as will become clear in this chapter.

9.1 The London Metal Exchange

Although trading of metals has taken place at the Royal Exchange since its opening in 1571, the London Metal Exchange Company was not established until 1877. The Industrial Revolution in the eighteenth and nineteenth centuries led to a significant increase in the demand for metal and a requirement for imports. The merchant sourcing these materials invested large sums of money and was exposed to high financial risk due to the fact that journeys were long and dangerous. In order to mitigate any risk of prices falling during the journey, a market developed in which metal could be sold for delivery at a future date estimated based on the ship's arrival time, at a price agreed on the trade date. The LME was established ...