CFD Trading in Europe
The European Securities and Markets Authority (ESMA) has announced that it will be placing restrictions on the sale and trading of contracts for difference (CFDs). Despite feedback from clients and brokers, the regulator has chosen to limit the amount of leverage that can be used with CFDs.
CFDs are a financial product that give traders exposure to a security's price movements without having to own the security. CFD trading is popular as it enables traders to profit from both upward and downward price movements. Because CFDs use leverage, profits and losses are magnified. CFD trading is available across a variety of different asset classes such as stocks, currencies and commodities.
In recent years, concerns have been raised over the suitability of CFDs for retail investors. As a result, ESMA has introduced new restrictions on CFDs. These will limit the amount that retail investors can borrow to leverage their trades.
Under the new CFD trading rules, leverage restrictions will apply. These will depend on the underlying asset. The strictest restrictions will be placed on cryptocurrency CFDs. The following leverage caps are set to be enforced:
- 30:1 for major currency pairs
- 20:1 for non-major currency pairs, gold and major indices
- 10:1 for commodities other than gold and non-major equity indices
- 5:1 for individual equities and other reference values
- 2:1 for cryptocurrencies
ESMA will also introduce other measures in the coming weeks. Brokers will need to provide negative balance protection so that clients can't lose more than the funds in their trading accounts. Brokers will also have to introduce a 50% margin close out rule. Bonuses and incentives to begin CFD trading will be banned. Furthermore, brokers will have to develop standardised risk warnings for retail clients.
A statement on the ESMA website explained that it had implemented the new restrictions to protect investors. Upon announcing the new measures, Steven Maijoor, ESMA Chair, commented: "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 a risk warning for investors."
ESMA intends to adopt the new measures in the official languages of the EU in the coming weeks. It will then publish an official notice on its website. ESMA can only introduce the restrictions on a temporary basis for three months. However, it is likely that ESMA will look to extend the restrictions beyond that timeframe.
