CFDs once again under the regulatory microscope as FCA follows ASIC’s lead in tightening rules on leverage

During the final quarter of 2015, Australia’s regulatory authority for non-bank financial markets, ASIC, began considering a ban on contracts for difference (CFD) products within its jurisdiction.

At that time, FinanceFeeds took a close look at the rationale behind this, noting that many commentators at the time had considered that CFDs have had a tumultuous run over the last 7 years, starting with the global financial crisis, as trading conditions became a lot more volatile.

Just over one year ago, an article published in the Financial Review by Patrick Durkin, highlighted that ASIC may be granted new powers by the government to put products like Contract for Difference (CFDs) under review.

Mr Durkin noted ‘Margin loans, contracts for difference and bank warrants could be curtailed or banned under far-reaching new powers to be granted to the corporate regulator by the government in response to the Financial System Inquiry.’

Given the leveraged nature of CFD trading, retail traders with little experience of money management, stop loss strategies and trading on leverage, have always been a potential black spot.

Depending on which CFD broker, it was considered that traders may get access to 100 times leverage on their trading account, which means a $1,000 trading account could access a total position size up to $100,000 in value, thus the general consensus at the time was that a retail trader who lacks the require experience or discipline is going to run into trouble pretty quickly.

Many senior executives in the industry have met personally with ASIC Chairman Greg Medcraft in CFD Forum meetings and at industry events, deducing that it is clear that Mr. Medcalf is not an advocate of retail traders getting access to highly leveraged, derivative products, thus he has often made it clear the CFD industry needs to self-regulate, and take matters under their own control.

Today, the Financial Conduct Authority (FCA) in London has begun to take a similar view.

FinanceFeeds has obtained a statement on the new stance that the FCA has now taken with regard to CFDs, which is of great importance as the FCA presides over a market in which CFDs are prevalent compared to spot FX due to the tax treatment of retail trading by the British government.

The statement from the FCA explains “The Financial Conduct Authority (FCA) is today proposing stricter rules for firms selling ‘contract for difference’ (CFD) products to retail customers to improve standards across the sector and ensure consumers are appropriately protected.”

“Contracts for differences, such as spread bets and rolling spot foreign exchange products, are complex financial instruments offered by investment firms, often through online platforms. Following an increase in the number of firms in the CFD market, the FCA has concerns that more retail customers are opening and trading CFD products that they do not adequately understand. The FCA’s analysis of a representative sample of client accounts for CFD firms found that 82% of clients lost money on these products. The FCA is therefore proposing a package of measures intended to enhance consumer protection by limiting the risks of CFD products and ensuring that customers are better informed.”

Industry comment on this matter has been substantial this morning across London, with Richard Fletcher of The Times having detailed the matter comprehensively, as well as noting the FCA’s concerns.

According to his perspective, the FCA has concluded that spread-betting firms have “failed to adequately consider if CFDs are appropriate for their customers, failed to provide adequate risk warnings and offered excessive levels of leverage to retail clients”.

That is the damning verdict of the British regulator which believes that 82 per cent of spread-betting clients lose money and has proposed stricter rules this morning, including mandatory disclosure of profit-loss ratios on client accounts to better illustrate the risks and historical performance of product, as well as lower leverage limits for inexperienced retail clients and capping leverage at a maximum level of 50:1 for all retail clients

“We have serious concerns that an increasing number of retail clients are trading in CFD products without an adequate understanding of the risks involved, and as a result can incur rapid, large and unexpected losses,” says Christopher Woolard, executive director of strategy and competition at the FCA.