Impact Analysis of ESMA’s Biggest Pan-European Regulatory Intervention in Forex & CFD Markets

13 min read

This article has appeared in March and has been republished for the technical issues purposes. Most of the information is relevant today.

Leverage for CFDs is expected to become much tougher in the European Union (EU). In a statement released on March 27, 2019 the European Securities and Markets Authority (ESMA) has finally made its announcement on the matter of contracts for differences (CFDs) and binary options to retail traders. 

The new leverage levels will depend on the underlying financial asset but the strictest cap is expected to be applied on cryptocurrency CFDs. Other major instruments are facing significantly tougher regulations from the EU as well and could see leverage caps at 5x to 30x – unless traders declare themselves as “pro trader” (see below article).

 

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5 New Rules by ESMA 

ESMA announced its final proposal on 27th of March, 2018 and decided to opt for some drastic changes, including large reductions to the leverage levels. This decision was taken despite consultation completed earlier this year where a significant majority of the trading industry advised ESMA not to implement major changes to the leverage limits. 

 

You will find the main implications below, including analysis of each provisions plus early comments from the PR teams of brokers.


  1. Leverage limits:
  • 1:30 for major currency pairs;
  • 1:20 for non-major currency pairs, gold and major indices;
  • 1:10 for commodities other than gold and non-major equity indices;
  • 1:5 for individual equities and other reference values;
  • 1:2 for cryptocurrencies.
  1. A margin close out rule on a per account basis. 

This is set to standardise the percentage of margin (at 50% of minimum required margin) at which providers are required to close out one or more retail client’s open CFDs.

  1. Negative balance protection on a per account basis. 

This will provide an overall guaranteed limit on retail client losses.

  1. A restriction on the incentives offered to trade CFDs.
  2. A standardised risk warning, including the percentage of losses on a CFD provider’s retail investor accounts.

How Does it Impact Traders?

The ESMA regulator’s chair commented on the regulatory move: “The agreed measures ESMA is announcing today will guarantee greater investor protection across the EU by ensuring a common minimum level of protection for retail investors.”

The new measures on CFDs will for the first time ensure that investors cannot lose more money than they put in, restrict the use of leverage and incentives, and provide risk warning for investors. 

Declare Pro

There’s unverified information about how traders could make sure to keep access to a leverage ratio of 1:100, but its limited and not conclusive. Nenad and Chris are currently investigating the situation to clarify when higher leverage would be allowed and applicable. 

We will keep updating the information here to make sure all traders who follow Elite CurrenSea have an understanding of the situation and are prepared when the regulations come into effect later in 2018.  

Of course, we also appreciate any thoughts and feedback on the situation in the comments below and via the contact form

A Pan-EU Approach to Regulating Financial Trading in European Union

The change to regulations was long coming… Ever since the free flow of goods and services was established in the EU, numerous companies settled in areas with milder jurisdiction (Malta, Cyprus, Estonia) while benefiting from being part of the EU umbrella. 

They were able to offer cross-eu/worldwide services through passporting – a method that grew old with EU “hegemons” (Germany, France, Netherlands) as years ago their respective bodies placed a tighter grip on the wild-west of trading.

The combination of the promise of high returns and easy-to-trade digital platforms has created an offer that appeals to retail investors, especially in an environment with historically low interest rates. However, the inherent complexity of the products and their excessive leverage – in the case of CFDs – has resulted in significant losses for retail investors. 

“A pan-EU approach is required given the cross-border nature of these products, and ESMA’s intervention is the most appropriate and efficient tool to address this major investor protection issue,” the head of ESMA, Steven Majoor, elaborated.

Lower Leverage and Requirement to Disclose Losing Clients

To make up for the smaller leverage, we might see a bigger effort from brokers to offer additional value in a form of better tools, market research, and commissions transparency. 

Disclosing the statistics from losing clients, however, could perhaps prove to be tricky… Time will tell to which extent brokers will indeed show this info. 

Savvy traders already are aware that many traders lose money at some point during their trading… Many of whom continue losing. Whether disclosing this information will make any difference remains to be seen. 

Binary Options Prohibition

The announced prohibition on marketing and other aspects is needed to protect investors due to the characteristics of binary options trading.


In fact, some consider the decision somewhat late as many people behind binary have probably moved to another activities. Let’s see if the EU regulations can come in time to protect investors against ICOs and cryptocurrency related products. 

How Does it Impact Brokers?

Although it’s too early to say, some of the bigger companies might be in an a bit of pickle… they are forced to choose from 2 option: 

  1. They would either need to abide and potentially lose clients seeking bigger leverage to offshore jurisdictions OR
  2. Risk reputation by engaging in infrastructural and legal changes to cater to the needs of EU traders. 

Part of the equation will certainly depend on the reaction of the EU consumer. Consumers might understand the necessity for change towards a bigger safety nett and smaller risks. If they do, they might decide to increase investments (trading capital) to match the margin levels circa 2017.  

We’ve reached several EU regulated brokers for the early comments and will updating this article as new info arrives. 

Plus500 Ltd

The Company acknowledges ESMA’s announcement noting it already operates in compliance with most of these regulatory changes.

Plus 500 is confident that the changes will bring positive outcome to the industry in the long run. Given the very strong start to 2018 trading, the Board believes there will be a limited impact on 2018’s expected financial performance. 

The Board will assess the potential impact on future years, but believes that Plus500’s highly flexible business model and global diversification with seven licenses in different jurisdictions, five of which are outside Europe, provide confidence in the Company’s future prospects.

Plus500 is confident that it will be able to mitigate the impact of these changes since it is already attracting experienced customers that can be categorised as professionals.

Plus500’s trading platform has been developed in-house based on proprietary technology that does not rely on third party software suppliers and is supported solely by its internal technical expertise. 

This structure enables it to expedite implementation of regulatory changes efficiently and react quickly to dynamic market developments, representing a significant competitive advantage. The Group also has a relatively low cost base which enables it to flex efficiently to market conditions.

 Asaf Elimelech, CEO, commented:

“The new regulations are broadly as expected and can be implemented rapidly by Plus500 due to our industry leading in-house technology. We are already compliant in most of the areas targeted, will adapt our business model where changes are required and will continue to mitigate the impact due to our geographical diversification outside Europe. We believe the changes will be to the benefit of industry leaders such as Plus500 and to the detriment of the long tail of smaller and less compliant industry operators, resulting in a better outcome for CFD customers.

“We recently announced record results for 2017 and a very strong start to 2018, and are confident that we can become the market leading CFD provider based on new market opportunities and our excellent current performance.”

Plus500 LTD Stock Performance

Asaf Elimelech has something to be confident from. The company showed a very strong yearly growth, and judging by the stock price, it does not seems like the regulation is damaging its shareholders value proposition. In case like this, Market confidence could be a strong indicator in the time of changes.  

CMC Markets

CMC Markets Plc (“CMC”) notes the announcement by the European Securities and Markets Authority (ESMA) issued today. CMC will use its technology meet all the requirements. CMC will amends its standard risk disclosure and is proud to never withholding the information from its stakeholders. 

Binary business accounted for £2.1m revenue, mostly from UK and EU, and the reduction should be subtle in the context of the Holding Group.

Margin changes are likely to have an impact on how clients trade, although at this stage it is not possible to quantify the impact. However, CMC remains confident that its strategy of targeting high value, experienced clients that could be categorised as ‘elective professionals’, puts it in a strong position to manage regulatory change.

CMCX Stock Performance

Overall CMC had a good 2017 as well, although investor’s confidence is still recovering from the drop in the end of 2016. CMC Markets services and positive community feedback makes this company a one to watch. 

IG Markets 

IG Group Holdings plc (LON:IGG) has stated that it is pleased with the efforts of the regulators to bolster client outcomes but voiced its disappointment with the regulators’ decision to proceed with what the broker called “disproportionate leverage restrictions”.

In a filing with the London Stock Exchange, IG warned that the leverage restrictions “will unduly restrict consumer choice, and risk pushing retail clients to providers based outside of the EU or to use other products which allow the leverage clients seek. This may result in poor client outcomes”.

IG does not believe there will be any financial impact from the implementation of the measures in the current financial year, FY18.

The company, however, expects that its revenue in FY19 will be lower than that expected in FY18, primarily reflecting the impact of the regulatory changes in the UK and EU. Also, IG’s revenue in FY18 year to date has benefitted from the volume of client trading in cryptocurrencies which is unlikely to be as strong in the next financial year. IG expects to return to growth after FY19.

IG GROUP HOLDINGS Stock Performance

Similarly to CMC Markets IG Group have had an amazing year in terms of investment in the company, that unlike in the case of the former helped to recover capitalisation lost in 2016. 

XM

XM wasn’t able to return a final statement… But did mention that it will take time for the industry to develop a sustainable model. Traders might be required to invest more to maintain the same trading style and accommodating this segment responsibly could be a priority.

FXDD

We’ve reached out to FXDD to see what the broker with minor EU presence is doing regarding the new rules. We are expecting to hear from FXDD shortly. 

AM

Compliance and pushing for more clients with professional status

Markets.com 

The cypress-based broker wasn’t available for comments to our questions. We will keep updating you on the communication, as new information arrives. 

AVATrade

Awaiting comments as well. Most likely will use other jurisdictions to attract clients, if they express the desire to trade under different regulatory supervision. 

More commentary and analysis will be added as we move to the more concrete stages. 

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